What is Gross Profit Margin
Gross profit margin is the most basic measure of a company’s profitability. That is, how much money is left after considering the cost of producing goods and services and paying workers. A good gross earnings margin ratio should lie up to 65% for thinking about healthy.
Note : The gross profit margin ratio illustrates how much of a company’s sales revenue it maintains after covering all of its direct operating expenditures.
Why is Gross Profit Margin important
Gross margin is important because it shows whether your sales are sufficient to cover your costs. Although, it is the beginning factor towards accomplishing a healthy net profit. When you have an excessive gross profit margin, you are in a better position to have a strong operating profit margin and strong net income.
For a more recent business, the greater your gross profit margin, the quicker you attain the break-even factor and begin earning profits from basic business activities.
How to calculate Gross Profit Margin
In order to calculate an organization’s gross profit margin percentage, subtract cost of goods sold (COGS) from net sales (gross revenues less returns, allowances, and discounts). The gross profit margin is then calculated by dividing this figure by net sales
Gross Profit Margin Calculation:
As an example, Adidas company sells a shoe for $200. They have cost of making $80.
Total product revenue = $200
Total production cost = $80
Gross Profit Margin Formula
Gross Profit margin = ( ( Gross profit ) ÷ revenue ) * 100
Gross profit = total revenue – total cost = $200-$80 = $120
Gross profit margin = ( $120 / $200 ) * 100
Gross profit margin = 0.6 * 100
Gross profit margin = 60%
What does the Gross Profit Margin Tell you
It may indicate poor management practices and/or inferior products if a company’s gross profit margin is wildly fluctuating. A company’s temporary volatility may be justified during times of major operations changes to its business model, but if this occurs, it should not be cause for concern.
Difference between Gross and Net Profit Margin
Revenue (the amount of money made) is divided by profit to get your gross profit margin. Net profit margin is profit minus the price of all other expenses (rent, wages, taxes, etc) divided by revenue.
Think of it as the money that ends up in your pocket. Investors are more likely to look at your net profit margin as it shows whether operating costs are covered, as opposed than your gross profit margin. The gross profit margin ratio illustrates how much of a company’s sales revenue it maintains after covering all of its direct operating expenditures.
