Turnover vs Profit: what’s the difference?

Revolut Contributor

 · 07/06/2020  · 07/06/2020

Turnover and profit are two of the most common words in the business lexicon, and they have entirely different meanings. When people ask: is turnover profit? it's clear that they would benefit from a quick primer on the relationship between these two core concepts.

Is turnover the same as profit?

In a word, no. At the most basic level, turnover is the total sales revenue that a business generates over a specific period. Profit is the amount of money remaining once the business deducts its costs for the same period. In simple terms, the turnover is the top-line of an income statement, and the profit is the bottom-line.

Of course, the picture is not quite so straightforward. There are various types of profit, each of which you calculate by deducting certain categories of costs. The analogy above describes net profit which, generally speaking, removes all costs. A business will also measure its gross profit and sometimes exotic metrics such as the EBITDA. Think of the income statement as a map, with turnover at the top, net profit at the bottom, and other profit metrics as destinations en route.

How is turnover calculated?

The first step is to clarify which type of turnover is relevant as this term has three meanings: staff, inventory, and sales. The turnover rate of staff or inventory are useful metrics but not directly related to profit. This post is about the relationship between sales turnover and profit.

In the UK, sales turnover is defined by The Companies Act 2006 as: "the amounts derived from the provision of goods and services falling within the company's ordinary activities after deduction of trade discounts, VAT, or other taxes". Income which is not directly related to a business supplying its own goods or services (e.g. investments), nor part of its ordinary activities (e.g. selling obsolete equipment), should be described as revenue rather than turnover, or possibly 'other income'. We explore this idea here.

To some degree, these distinctions are academic as the income streams still get reported somewhere on the income statements of the business. In many situations, sales turnover and revenue describe such similar ideas they are used interchangeably without problems. Despite the caveats above, the remainder of this post will treat the two terms as synonyms.

When you calculate turnover, there are a few issues to note, mostly based on the revenue recognition principle. For instance, this specifies the point during a transaction when a business should record new revenue (i.e. turnover) in its books. This concept also clarifies over what timeframe to spread this revenue, as it might cover more than one month or accounting period. The same is true for costs: you must allocate these to the same period that the expense is related to. All of these things can affect profit.

There are situations where HMRC says that a business should record the value of certain transactions in its turnover figures that aren't obvious streams of income. Once again, this would have a bearing on profits. Examples of these are the value of any goods bartered, part-exchanged, or given away as gifts.

Is turnover more important than profit?

Business experts love to say that turnover is vanity, but profit is sanity. This means that while a massive sales turnover looks impressive, there’s rarely a commercial benefit to this unless it creates profit.

But there are, of course, exceptions. For instance, a business might prioritise building up its market share or customer base in its early stages, which can lead to a chunky turnover despite minimal profits of any type.

What is a good profit to turnover ratio?

Each flavour of profit (e.g. net or gross) is easily converted into its margin ratio format when you divide its monetary value by the turnover (i.e. revenue) for the same period. This will create the net profit margin or the gross profit margin etc. These individual profit ratios are commonly called margin ratios.

As with most financial metrics, it's more insightful to compare each one to the same metric from earlier periods, a forecast, or an industry benchmark than to define one arbitrary value as a 'good'. Margins vary between industries and over time, so perspective is what matters.

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