# How do you differentiate between a business expense and an investment for the purpose of profit reporting?

As I understand it, in a company, profit will be invested, either into capital assets or into projects.

How do you distinguish between an expense, and reinvesting profits back into company projects?

For instance, if Pfizer makes \$100B in revenue, spends \$80B on business expenses doing so, then spends the remaining \$20B on research for a new drug, would they have made \$20B in profit? or \$0? ## 3 Answers In economics profit is simply defined as total revenue minus total costs or: $$\Pi = TR-TC$$ In your case if Pfizer makes \$100B in revenue, spends \$80B on business expenses doing so, then spends the remaining \$20B on research for a new drug.

from economic perspective the profit would be:

$$\Pi= TR -TC = {\\\}100B - ({\\\}80B+{\\\}20B) = 0B$$

So from economic perspective the profit will be zero. (However, note the economic perspective is not necessary the same as an accounting perspective - I mention that since you reference reporting, but in this case accounting profit would also happen to be zero if $$20B$$ is on accounts treated as cost).

• so if this is true shouldn't a good majority of companies be making near \$0 profit since companies tend to reinvest all their profits? If I wikipedia a company making billions in profit with no dividends, where is this money going? Oct 31 '20 at 17:01 • @Chubmaster25 in your example above the spending is happening at the same time but in reality in dynamic setting the situation might look more like this:$t=1$Firm has revenue$100b$and total cost$80b$which gives firm$20b$profit (in accounting this would be called retained earnings), then in period$t=2$the$20b\$ might be spend on research. If it is spend within the same period then the profits must be zero. Also, in many industries even if accounting profits are positive economic profits might be zero although in your particular simple example they would coincide.
– 1muflon1
Oct 31 '20 at 17:12
• lastly going back to retained earnings, if you will look at the income statements of real life firms that is what you will find there if their total revenue was greater than all expenses (including the investment expenses and people would say that those retained earnings are 'reinvested'- although I am not an accountant and maybe in some situation investment spending now might be allowed under accounting rules to be recorded later - but economists would not make such distinction. Also economists would add also all the unobservable opportunity costs etc.)
– 1muflon1
Oct 31 '20 at 17:16
• @Chubmaster25 I think based on your comments that you are probably more interested into accounting side of things - for that personal finance & money stack exchange is the correct place.
– 1muflon1
Oct 31 '20 at 17:21
• I see thank you. Oct 31 '20 at 19:43

From an accounting perspective, minimizing taxable profits is a generally a good thing. This is quite distinct from minimizing profit.

An investment is something you expect to generate money. In an error prior to intellectual property and R&D, it typically referred to capital equipment--something you could sell, if necessary. An expense, in contrast, generates no residual value. The difference is simple when buying a tractor, still mostly simple when buying the plans for a tractor, but starts to get a bit odd when you talk about investing by researching how to build a tractor. Happily, accounting rules have long acomodated the problem of 'We paid way more for this asset than it was worth".

The matching principle of accounting makes efforts to match revenue to related expenses during a period. This means cash outlays during a period are either capitalized to an asset account or deducted from revenue in the profit and loss statement using a current expense account.

This video covers the basic concepts of capitalization versus expense: