What does after-tax net operating income mean?
Net operating profit after tax (NOPAT) is the potential cash profit of a company if its capitalization was not taken care of, that is to say if it had no debt. NOPAT is frequently used in economic value added (EVA) calculations. NOPAT is a closer look at the operational efficiency of leveraged companies, and it doesn’t include the tax savings that many companies get as a result of existing debt.
Net operating profit after tax (NOPAT)
Understanding net operating income after tax (NOPAT)
Net operating income after tax shows the performance of a business in its main activities, net of tax. The figure does not include one-off losses or charges; these do not provide a true representation of the true profitability of a business. Some of these charges may include charges related to a merger or acquisition, which, if taken into account, do not necessarily give a precise picture of the operations of the business, even if they may affect the net result of the business that year.
Analysts look at many different measures of performance when they value a business as an investment. The most commonly used performance measures are sales and growth in net earnings. Sales provide a first-rate measure of performance, but they do not speak of operational efficiency. Net income includes operating expenses, but also includes tax savings on debt. After-tax net operating income is a hybrid calculation that allows analysts to compare company performance without the influence of leverage. In this way, it is a more precise measure of pure operating efficiency.
Example of after-tax net operating income
Net operating profit after tax is calculated as operating profit multiplied by one, less the tax rate:
NOPAT = Operating income x (1 – Tax rate)
Operating profit is also called profit before interest and taxes (EBIT). For example, if the EBIT is $ 10,000 and the tax rate is 30%, the calculation is $ 10,000 x (1 – 0.3) or 0.7, which equals $ 7,000. This is an approximation of after-tax cash flow without the tax benefit of the debt. Note that if a company has no debt, the net operating profit after tax is the same as the net profit after tax. When calculating net after-tax operating profit, analysts like to compare with similar companies in the same industry because some industries have higher or lower costs than others.
Interpretation of NOPAT and uses
In addition to providing analysts with a measure of basic operating efficiency without the influence of debt, M&A analysts use net operating income after tax. They use it to calculate Free Cash Flow to Business (FCFF), which equals net operating income after tax, minus changes in working capital. They also use it in the calculation of economic free cash flow to businesses (FCFF), which is equal to the net operating profit after tax less capital. Both are primarily used by analysts looking for acquisition targets, as the purchaser’s financing will replace the current financing agreement. Another way to calculate net operating income after tax is net income plus net interest after tax, or net income plus net interest, multiplied by 1, minus the tax rate.