GROSS MARGIN CALCULATOR: THE COST OF DOING BUSINESS

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What is Gross Margin?

The dollar amount left after deducting direct costs, or Costs of Goods Sold (COGS), is the gross profit.

GROSS PROFIT = REVENUE - COGS

The gross profit margin is the percentage of each revenue dollar that's left after removing COGS. It's a scalable figure. This is how investors can compare two very different companies like Wal-Mart and Amazon.

GROSS PROFIT MARGIN = GROSS PROFIT / REVENUE

Gross profit margin is an indicator of how well a company manages its resources. Use it to tell if a company can acquire inventory at a faster rate or lower cost than its competitors.

Revenue and Cost of Goods Sold

Revenue is the amount of money an entity makes by selling its goods or services. The cost of goods sold is the direct costs associated with earning that revenue. For a manufacturer, COGS are the expenses incurred while making their product. This includes the cost of labor to produce the inventory item and the cost of parts.

Don't use Cost of Services, operating costs or administrative expenses. The correct categorization of expenses will ensure you only use COGS when calculating gross metrics.

COGS vs Cost of Services

Retailers buy their merchandise for resale and the amount spent represents their COGS. As a rule, businesses that earn an income based on services, don't have an inventory. Without an inventory, there can't be a cost of goods sold. Instead, the direct expenses identified with providing a service are Costs of Service (COS).

COGS vs Operating Costs

Operating costs are all costs associated with making revenue, including COGS. The other operating costs are overhead costs. They're things like rent, advertising, and machinery. In most cases, if an expense changes the cost to produce or buy one unit of inventory, it's COGS. If it affects the overall price to build inventory, it usually falls into the category of operating cost.

Even though COGS is a part of operating costs, most separate the two. This is because operating costs don't affect gross profit and gross profit margin. Yet you need both to calculate operating and net profit metrics.

COGS vs Administrative Expenses

Think of administrative expenses as the cost of doing business. You don't pay these items to turn a profit, you pay them to keep the doors open. Interest fees, taxes, and loan payments are all administrative expenses.