Net Operating Profit after Tax (NOPAT)

Companies raise debt and equity capital to buy operating and non-operating assets which are expected to generate revenues going forward.  Operating assets are those short-term or long-term, liquid or illiquid, assets acquired for use in the conduct of the core operations of a business. They usually include inventory, prepaid expenses, account receivables and property, plants and equipment. The revenue generated by these operating assets over a financial period is reported on the Profit and Loss Statement (P&L) according to the accounting principles. The net difference between the revenue generated by the core operations and the expenses directly incurred to generate this revenue is called the Operating Income. Net Operating Profit after Tax (NOPAT) is the Operating Income adjusted for taxes.

The table below provides an economic view of the P&L and it is the starting basis to calculate NOPAT.

Economic view of the P&L
Operations Revenue – Cost of Goods Sold (COGS) – Selling, General and Administrative expenses (SG&A)
=EBITDA
+
Investments Depreciation & Amortization
= EBIT
+
Capital structure + Net financial income
= Earnings before taxes (EBT)
+
Exceptional items and taxes + Exceptional items – taxes – minority interests
= Net Income

EBITDA

Earnings Before Interest, Tax, Depreciation and Amortization (EBITDA), is used as a proxy for the company’s profitability and operating cash flows. It is calculated as revenues less cash operating expenses. It can be used to compare the profitability of companies across different industries as it is unaffected by the level of capital expenditures and depreciation policies.

Net Operating Profit after taxes (NOPAT)

EBIT

Earnings Before Interest and Tax (EBIT), or operating profit, correct this situation. It is the revenue generated by a company through its core operations and commercial activities less cash operating expenses, and non-cash depreciation and amortization expenses. It can be viewed as the EBITDA adjusted for the capital intensiveness of the business.

NOPAT

In most countries, companies are legally required to pay taxes on their income so the operating profit, or EBIT, is usually adjusted to take into account this tax expense to arrive at a figure called NOPAT. NOPAT is calculated as follows:

NOPAT = [Revenue – COGS – SG&A – Depreciation – Amortization] * (1 – Tax rate)

NOPAT = [EBITDA – Depreciation – Amortization] * (1 – Tax rate)

NOPAT = EBIT * (1 – Tax rate)

NOPAT is the net operating profit available to all capital providers, including debt and equity holders. NOPAT does not take into account the effect of leverage so it is only used when calculating figures or ratios related to the firm value, as opposed to equity value which includes the tax shield associated with debt. NOPLAT is often used as an input in DCF models.

Net Income 

Net Income is the NOPAT adjusted for the after-tax effect of financial leverage, non-operating and exceptional items and minority interest, if necessary. Net income is, therefore, the income attributable to equity holders and it’s why sell-side analysts on Wall Street focus heavily on earnings per share. The formula to calculate Net Income from NOPAT can be summarized as follows:

Net Income = NOPAT + [Non-operating Gains – Non-operating Loss – Interest Expense + Interest Income] * (1-Tax rate)

NOPLAT

There is a subtle difference between NOPAT and Net Operating Profit Less Adjusted Taxes (NOPLAT) that is nonetheless important. Generally, accounting and tax rules are different so expenses that are deductible for accounting purposes may not be deductible for tax purposes, or the deduction rules may differ.

[adsense_bottom]

The most common example is depreciation. In the US, fixed assets are often depreciated on a straight-line basis on the P&L but on an accelerated depreciation basis for tax purposes, resulting in a deferred tax liability. It should be noted however that deferred taxes are usually temporary so NOPLAT and NOPAT should converge in a long-term forecast.

The formula for NOPLAT is written as:

NOPLAT = (1 – Tax rate) * EBIT + Changes in Deferred Taxes

To better understand how these figures are calculated in practice, you can look at the P&L below which provides a line-by-line example of the main items on the top line and bottom line.

NOPAT P&L
1

1.
Principles of Corporate Finance,  McGRAW HILL. 10th ed. McGRAW HILL.; 2019.
Sanjay Bulaki Borad

Sanjay Bulaki Borad

Sanjay Borad is the founder & CEO of eFinanceManagement. He is passionate about keeping and making things simple and easy. Running this blog since 2009 and trying to explain "Financial Management Concepts in Layman's Terms".

OUR LATEST POSTS

Leave a Comment

Related Posts

How do Factoring Companies Work
How do Factoring Companies Work?

The term factoring in finance stands for the act of buying a company’s rights to collect payments from its debtors or accounts receivables and charging

Blue Sky Laws
Blue Sky Laws

What are Blue Sky Laws?In order to protect investors dealing in securities from fraud, there are some Federal Securities laws at the country level. But,

Dirty Float
Dirty Float

Dirty float, also known as the managed float is an exchange rate system in which the value of a currency is determined not only by