Does your small business have equity shareholders and debt holders? If so, you might want to start calculating your business’s net operating profit after tax, known as NOPAT.
Formula for NOPAT
The simple formula for NOPAT is revenue minus operating expenses minus taxes. NOPAT is a measure of a company’s after-tax profit that investors use to compare the financial results of a business over time, and to compare a business to its competitors. People use NOPAT when calculating economic value added, which is the financial return your small business earns over minimum required return. You might also see NOPAT used in free cash flow calculations in financial modeling.
Why NOPAT Matters
NOPAT is an important number for your business because it shows your theoretical income from operations if your business has zero debt and no interest expense. Investors, lenders, and other stakeholders find NOPAT useful because it allows them to compare companies more easily by removing any impact of their capital structures. That’s why, if your business has debt holders, it’s a good idea to have a NOPAT calculation ready to show at a moment’s notice.
It takes just three steps to calculate NOPAT:
- Start with your operating earnings, which is the profit your company makes before interest and taxes. You calculate that on your income statement. For example, say your operating income is $150,000.
- Next, make a few adjustments to relevant items on your income statement. Eliminate any distortions in the numbers that accounting practices cause. In other words, convert accrual accounting numbers to cash basis accounting numbers. You might need to reclassify some expenses as investments and move them over to your business’ balance sheet. This is known as capitalization.
- Finally, subtract cash operating taxes. Calculate that amount using your income statements and balance sheets from the current and previous years. At a 36% tax rate, the NOPAT on $150,000 is $96,000.
NOPAT is a useful measure of a business’ financial return that investors, debt holders, and stakeholders use to compare the business’s results to its history and competitors. Calculating NOPAT takes only three steps. Depending on the complexity of your business, though, the calculation can be challenging. It’s wise to consult an accounting professional when calculating NOPAT.
Taxes can eat into your business profits but there are ways to keep more money. QuickBooks Online can help you maximize your tax deductions. Keep more of what you earn today.