Why Are Cost, Revenue and Profit Important?
For-profit companies exist to deliver products and services that generate revenues and provide a profit for the benefit of the owners. Revenues, costs and profits are the basic financial components of operating a business. They are the details that show on a company's income, —or profit and loss — statement. To continue as an ongoing enterprise, a company must generate sufficient revenue to cover its costs and earn a profit.
Cost, revenue and profit are the three most important aspects of a business because they reflect a company's financial health and ability to continue operating.
Revenues are sales or gross receipts your company generates from fees it charges for services it renders or products it sells. These revenues are classified as operating revenues, because they come from the main business your company engages in. Revenues that come from gains on sale of assets or interest earned on investments are considered non-operating revenues.
Revenues are the top line on an income statement. The importance of revenue collection cannot be stressed enough. Without revenues, your company must tap other financing sources, including loans or equity issuance, to fund its activities.
Your business incurs a number of costs, including the cost of revenue. Cost of revenue represents the cost of goods sold or services delivered — which includes raw materials or wholesale inventory, supplies and direct labor.
Your company also generates operating expenses, or selling, general and administrative expenses. These include, but are not limited to, marketing, rent, utilities, salaries, training and meals. Additional costs include interest on any debt financing and income taxes.
Your company, even if it is a home-based or an online business, must incur these costs in order to deliver its products or services. As the owner or manager, you must pay people to perform duties that you either cannot do or do not have time to do, and you must market your business to find and attract customers. You must pay for the phone you use to call, as well as the computer and internet you use to write and connect. The only way your company will not incur costs is if it is dormant and not operating.
Profit is what remains after your company pays its expenses, and appears in three different areas on the income statement. There is gross profit and net profit, although net profit is the primary form of profit referred to. Gross profit is what remains after deducting your company's cost of goods sold from its total revenues.
Net profit is the last number shown on the income statement and is therefore sometimes referred to as the "bottom line" number. Net profit is also referred to as net income. Calculate net profit by subtracting all company expenses including cost of goods sold, operating expenses and income taxes from total revenue.
Profit is very important, because this is what you funnel back into the business as retained earnings to pay for business expansion. If your company only breaks even, meaning it has a net profit of zero, or has a net loss, it must access other funding sources to remain in business. Without profits your business will eventually fail.