Operating surplus
Encyclopedia
Operating surplus is an accounting concept used in national accounts
statistics (such as United Nations System of National Accounts (UNSNA) and in corporate and government accounts. It is the balancing item of the Generation of Income Account in the UNSNA. It may be used in macro-economics as a proxy for total pre-tax profit income, although entrepreneurial income may provide a better measure of business profits. According to the 2008 SNA, it is the measure of the surplus accruing from production before deducting property income, e.g., land rent
and interest
.
Operating surplus is a component of value added
and GDP. The term "mixed income" is used when operating surplus cannot be distinguished from wage income, for example, in the case of sole proprietorships. Most of operating surplus will normally consist of gross profit
income. In principle, it includes the (separately itemised) increase in the value of output inventories held, with or without a valuation adjustment reflecting average prices during the accounting period.
Operating surplus therefore does not necessarily refer to all gross profit income realized in an economy. Profits are also realized from all kinds of property transactions which do not involve new production, and profits are also received from foreign countries. In addition, profits arising from the use of natural resources, land, and financial assets (in the form of interest income) will not be included.
, expenditure on intermediate goods and services
are deducted, to arrive at gross value added
.
Value added may be stated gross (equal to the net output value, including consumption of fixed capital
, i.e. depreciation charges) or net (excluding consumption of fixed capital). The net operating surplus (NOS) is thus the residual balancing item in the product account, obtained as follows:
In simple equations,
NOS=GV - (CE + (IT-SU) + CFC)
or
NOS=NV - (CE + (IT-SU)
Operating surplus can of course also be stated gross (GOS):
GOS=NOS + CFC
In this case, depreciation charges are included.
Operating surplus also excludes property incomes considered to be unrelated to value-adding production.
In UNSNA, "mixed income" refers to the balancing item of accounts for unincorporated enterprises owned by members of households, either individually or in partnership with others, in which the self-employed owners, or other members of their households, work and obtain income other than wages or salaries, which is included in operating surplus.
In practice, all unincorporated enterprises owned by households that are not quasi-corporations fall in this category, except for the "imputed rent
al value of owner-occupied housing" and paid domestic staff employed by households, an activity that is considered to generate no surplus.
Some countries separately itemise this mixed income in their accounts, other do not.
But if buildings, other structures, machinery or equipment are rented by an enterprise, the payments of rentals under an operating lease or similar lease are recorded as purchases of services (Intermediate consumption
). Thus, the payment of a rental on a fixed asset reduces its gross value added, below what it would be, if the producer owned the asset.
The impact of this on net value added is offset to some extent by the fact that a tenant, or lessee, incurs no asset depreciation, whereas an owner would. But net value added will be lower when a fixed asset is rented, because the rental has to cover the lessor's operating and interest costs as well as asset depreciation. Thus, the size of net operating surplus will vary according to whether fixed assets are rented, or purchased.
Enterprises may furthermore invest surplus capital in financial assets or real estate assets, especially in times of uncertainty or high interest rates. Considerable property income may be received from such investments. In UNSNA, this property income does not constitute part of value added in production, and is therefore excluded from operating surplus (except for what is called the services of the financial, insurance and real estate industry).
If therefore an increasing amount of business income consists of property income rather than income from production, this will lower value added, and lower operating surplus.
is somewhat deceptive, insofar as the operating surplus in national accounts, as a component of value added, is not truly equal to real generic pre-tax profit receipts.
The main reason for that is simply that, in calculating this aggregate, various items are added and deducted from an initial surveyed (or tax-declared) gross profit figure in a way that is consistent with the concept of value added
.
Or, to put it a different way, the definition of operating surplus is dependent on the general definition of Gross Output
from production. To obtain a measure of value added in production, all those income flows considered to be unrelated to production
(mainly, property income and transfer income) are excluded from the valuation of Gross Output. Therefore, this is one reason why the operating surplus cited in national accounts is likely to be lower than real generic pre-tax profit income. An additional problem is the practice of shifting the declaration of profit income to another country where taxes are lower, by means of various financial manipulations. Again that leads to an understatement of domestic profits.
The trend in operating surplus over time will normally be similar to the general trend in gross business profits, but in Marxian economics
operating surplus is rejected as an adequate proxy for total gross profit or surplus value
.
The main reason is that in Marxian economics the official concepts of Gross Output
and value added
are not accepted as an adequate definition of the value of production. Among other things, a fraction of profit, interest and rent income which is payable from the gross income of producing enterprises is excluded from value added in the official accounts, on the ground that it is unrelated to production. Marxian economists however argue that fraction is part of the value of production and the value product
, insofar it has to be paid out of current revenues of producing enterprises.
This Marxian interpretation implies a somewhat different view of the real cost structure of production, and the real composition of product values, and to obtain alternative measures, the official accounts must be substantially reaggregated to make explicit the sources and receipts of income from salaries, profits, interest, rent, taxes and social insurance levies, subsidies, royalties and fees, and their contribution to the valuation of gross product (see also value product
).
In the Marxian view, obtaining generic profit income from sales is precisely the prime motivator of capitalist business activity, and therefore to present this income as a "generic residual balancing item" in national accounts without making its components explicit does no justice to the real economic relations involved.
National accounts
National accounts or national account systems are the implementation of complete and consistent accounting techniques for measuring the economic activity of a nation. These include detailed underlying measures that rely on double-entry accounting...
statistics (such as United Nations System of National Accounts (UNSNA) and in corporate and government accounts. It is the balancing item of the Generation of Income Account in the UNSNA. It may be used in macro-economics as a proxy for total pre-tax profit income, although entrepreneurial income may provide a better measure of business profits. According to the 2008 SNA, it is the measure of the surplus accruing from production before deducting property income, e.g., land rent
Renting
Renting is an agreement where a payment is made for the temporary use of a good, service or property owned by another. A gross lease is when the tenant pays a flat rental amount and the landlord pays for all property charges regularly incurred by the ownership from landowners...
and interest
Interest
Interest is a fee paid by a borrower of assets to the owner as a form of compensation for the use of the assets. It is most commonly the price paid for the use of borrowed money, or money earned by deposited funds....
.
Operating surplus is a component of value added
Value added
In economics, the difference between the sale price and the production cost of a product is the value added per unit. Summing value added per unit over all units sold is total value added. Total value added is equivalent to Revenue less Outside Purchases...
and GDP. The term "mixed income" is used when operating surplus cannot be distinguished from wage income, for example, in the case of sole proprietorships. Most of operating surplus will normally consist of gross profit
Profit (accounting)
In accounting, profit can be considered to be the difference between the purchase price and the costs of bringing to market whatever it is that is accounted as an enterprise in terms of the component costs of delivered goods and/or services and any operating or other expenses.-Definition:There are...
income. In principle, it includes the (separately itemised) increase in the value of output inventories held, with or without a valuation adjustment reflecting average prices during the accounting period.
Operating surplus therefore does not necessarily refer to all gross profit income realized in an economy. Profits are also realized from all kinds of property transactions which do not involve new production, and profits are also received from foreign countries. In addition, profits arising from the use of natural resources, land, and financial assets (in the form of interest income) will not be included.
Derivation of operating surplus in UNSNA
A simple definition of business profit would be "sales less costs", and the accounting derivation of operating surplus is similar (although the SNA concept of entrepreneurial income better matches what is thought of as business profits). Starting off with Gross OutputGross Output
Gross output is an economic concept used in national accounts such as the United Nations System of National Accounts and the US National Income and Product Accounts...
, expenditure on intermediate goods and services
Intermediate consumption
Intermediate consumption is an economic concept used in national accounts, such as the United Nations System of National Accounts , the US National Income and Product Accounts and the European System of Accounts .Conceptually, the aggregate "intermediate consumption" is equal to the amount of the...
are deducted, to arrive at gross value added
Value added
In economics, the difference between the sale price and the production cost of a product is the value added per unit. Summing value added per unit over all units sold is total value added. Total value added is equivalent to Revenue less Outside Purchases...
.
Value added may be stated gross (equal to the net output value, including consumption of fixed capital
Consumption of fixed capital
Consumption of fixed capital is a term used in business accounts, tax assessments and national accounts for depreciation of fixed assets...
, i.e. depreciation charges) or net (excluding consumption of fixed capital). The net operating surplus (NOS) is thus the residual balancing item in the product account, obtained as follows:
- Gross value addedGross value addedGross Value Added ' is a measure in economics of the value of goods and services produced in an area, industry or sector of an economy...
(GV) - less consumption of fixed capital. (CFC)
- equals net value added (NV)
- less Compensation of employeesCompensation of employeesCompensation of employees is a statistical term used in national accounts, balance of payments statistics and sometimes in corporate accounts as well...
(CE) - less indirect taxes paid by producers, reduced by producer subsidies received (IT-SU)
- equals net operating surplus (NOS)
In simple equations,
NOS=GV - (CE + (IT-SU) + CFC)
or
NOS=NV - (CE + (IT-SU)
Operating surplus can of course also be stated gross (GOS):
GOS=NOS + CFC
In this case, depreciation charges are included.
Exclusions
In UNSNA, "implicit (imputed) rents" on land owned by the enterprise and the "implicit (imputed) interest" chargeable on the use of the enterprise's own funds are excluded from operating surplus.Operating surplus also excludes property incomes considered to be unrelated to value-adding production.
Mixed income
The category of operating surplus is applied to the whole economy, and therefore may include more than gross corporate profit income. For example, profit income by self-employed operators.In UNSNA, "mixed income" refers to the balancing item of accounts for unincorporated enterprises owned by members of households, either individually or in partnership with others, in which the self-employed owners, or other members of their households, work and obtain income other than wages or salaries, which is included in operating surplus.
In practice, all unincorporated enterprises owned by households that are not quasi-corporations fall in this category, except for the "imputed rent
Imputed rent
Imputed rent is the economic theory of imputation applied to real estate: that the value of a good is more a matter what the buyer is willing to pay than the cost the seller incurs to create it. In this case, market rents are used to estimate the value to the property owner...
al value of owner-occupied housing" and paid domestic staff employed by households, an activity that is considered to generate no surplus.
Some countries separately itemise this mixed income in their accounts, other do not.
The effect of ownership relations on operating surplus in UNSNA
The size of total operating surplus is in theory not affected by whether the assets used in production are owned or rented by the enterprise, or whether assets owned by the enterprise and used in production are financed out of its own funds (or equity capital) or out of borrowed funds (or loan capital).But if buildings, other structures, machinery or equipment are rented by an enterprise, the payments of rentals under an operating lease or similar lease are recorded as purchases of services (Intermediate consumption
Intermediate consumption
Intermediate consumption is an economic concept used in national accounts, such as the United Nations System of National Accounts , the US National Income and Product Accounts and the European System of Accounts .Conceptually, the aggregate "intermediate consumption" is equal to the amount of the...
). Thus, the payment of a rental on a fixed asset reduces its gross value added, below what it would be, if the producer owned the asset.
The impact of this on net value added is offset to some extent by the fact that a tenant, or lessee, incurs no asset depreciation, whereas an owner would. But net value added will be lower when a fixed asset is rented, because the rental has to cover the lessor's operating and interest costs as well as asset depreciation. Thus, the size of net operating surplus will vary according to whether fixed assets are rented, or purchased.
Enterprises may furthermore invest surplus capital in financial assets or real estate assets, especially in times of uncertainty or high interest rates. Considerable property income may be received from such investments. In UNSNA, this property income does not constitute part of value added in production, and is therefore excluded from operating surplus (except for what is called the services of the financial, insurance and real estate industry).
If therefore an increasing amount of business income consists of property income rather than income from production, this will lower value added, and lower operating surplus.
Criticism of UNSNA concept
As stated, operating surplus is a residual item in national accounts of gross product. It is "analogous" to what is "left over" when a business deducts its costs from sales revenue in order to arrive at its profit total. However, the analogyAnalogy
Analogy is a cognitive process of transferring information or meaning from a particular subject to another particular subject , and a linguistic expression corresponding to such a process...
is somewhat deceptive, insofar as the operating surplus in national accounts, as a component of value added, is not truly equal to real generic pre-tax profit receipts.
The main reason for that is simply that, in calculating this aggregate, various items are added and deducted from an initial surveyed (or tax-declared) gross profit figure in a way that is consistent with the concept of value added
Value added
In economics, the difference between the sale price and the production cost of a product is the value added per unit. Summing value added per unit over all units sold is total value added. Total value added is equivalent to Revenue less Outside Purchases...
.
Or, to put it a different way, the definition of operating surplus is dependent on the general definition of Gross Output
Gross Output
Gross output is an economic concept used in national accounts such as the United Nations System of National Accounts and the US National Income and Product Accounts...
from production. To obtain a measure of value added in production, all those income flows considered to be unrelated to production
Production, costs, and pricing
The following outline is provided as an overview of and topical guide to industrial organization:Industrial organization – describes the behavior of firms in the marketplace with regard to production, pricing, employment and other decisions...
(mainly, property income and transfer income) are excluded from the valuation of Gross Output. Therefore, this is one reason why the operating surplus cited in national accounts is likely to be lower than real generic pre-tax profit income. An additional problem is the practice of shifting the declaration of profit income to another country where taxes are lower, by means of various financial manipulations. Again that leads to an understatement of domestic profits.
The trend in operating surplus over time will normally be similar to the general trend in gross business profits, but in Marxian economics
Marxian economics
Marxian economics refers to economic theories on the functioning of capitalism based on the works of Karl Marx. Adherents of Marxian economics, particularly in academia, distinguish it from Marxism as a political ideology and sociological theory, arguing that Marx's approach to understanding the...
operating surplus is rejected as an adequate proxy for total gross profit or surplus value
Surplus value
Surplus value is a concept used famously by Karl Marx in his critique of political economy. Although Marx did not himself invent the term, he developed the concept...
.
The main reason is that in Marxian economics the official concepts of Gross Output
Gross Output
Gross output is an economic concept used in national accounts such as the United Nations System of National Accounts and the US National Income and Product Accounts...
and value added
Value added
In economics, the difference between the sale price and the production cost of a product is the value added per unit. Summing value added per unit over all units sold is total value added. Total value added is equivalent to Revenue less Outside Purchases...
are not accepted as an adequate definition of the value of production. Among other things, a fraction of profit, interest and rent income which is payable from the gross income of producing enterprises is excluded from value added in the official accounts, on the ground that it is unrelated to production. Marxian economists however argue that fraction is part of the value of production and the value product
Value product
The value product is an economic concept formulated by Karl Marx in his critique of political economy during the 1860s, and used in Marxian social accounting theory for capitalist economies...
, insofar it has to be paid out of current revenues of producing enterprises.
This Marxian interpretation implies a somewhat different view of the real cost structure of production, and the real composition of product values, and to obtain alternative measures, the official accounts must be substantially reaggregated to make explicit the sources and receipts of income from salaries, profits, interest, rent, taxes and social insurance levies, subsidies, royalties and fees, and their contribution to the valuation of gross product (see also value product
Value product
The value product is an economic concept formulated by Karl Marx in his critique of political economy during the 1860s, and used in Marxian social accounting theory for capitalist economies...
).
In the Marxian view, obtaining generic profit income from sales is precisely the prime motivator of capitalist business activity, and therefore to present this income as a "generic residual balancing item" in national accounts without making its components explicit does no justice to the real economic relations involved.
See also
- Accounting
- Capital surplusCapital surplusCapital surplus term that frequently appears as a balance sheet item as a component of shareholders' equity. Capital surplus is used to account for that a firm raises in excess of the par value of the shares ....
- Consumer surplus
- cost of capitalCost of capitalThe cost of capital is a term used in the field of financial investment to refer to the cost of a company's funds , or, from an investor's point of view "the shareholder's required return on a portfolio of all the company's existing securities"...
- Economic surplusEconomic surplusIn mainstream economics, economic surplus refers to two related quantities. Consumer surplus or consumers' surplus is the monetary gain obtained by consumers because they are able to purchase a product for a price that is less than the highest price that they would be willing to pay...
- Producer surplus
- Profit (accounting)Profit (accounting)In accounting, profit can be considered to be the difference between the purchase price and the costs of bringing to market whatever it is that is accounted as an enterprise in terms of the component costs of delivered goods and/or services and any operating or other expenses.-Definition:There are...
- Surplus productSurplus productSurplus product is a concept explicitly theorised by Karl Marx in his critique of political economy. Marx first began to work out his idea of surplus product in his 1844 notes on James Mill's Elements of political economy...
- Surplus valueSurplus valueSurplus value is a concept used famously by Karl Marx in his critique of political economy. Although Marx did not himself invent the term, he developed the concept...
- United Nations System of National Accounts (UNSNA)