Gross Profit Margin

What is Gross Profit Margin?

Gross Profit Margin measures your company’s profit in a period after accounting for the cost of goods sold (COGS) – or, essentially, the cost of doing business. It’s also called the gross margin ratio.

A high Gross Profit Margin is desirable as it shows the company is efficient, but a low Gross Profit Margin indicates there are inefficiencies that need to be culled. Investors tend to carefully monitor this KPI, as it indicates a great deal about a company’s financial performance and the state of its management.

Gross Profit Margin is a relevant KPI for your finance team to track.

Why is Gross Profit Margin important?

Gross Profit Margin is important as it indicates how easily a company turns sales into profits. A fluctuating or low Gross Profit Margin might indicate inefficiencies within the business, but also might indicate market volatility. Meanwhile, a consistently high Gross Profit Margin indicates your business occupies a favorable market position, especially when contextualized against industry standards.

For these reasons, tracking Gross Profit Margin in conjunction with market trends and industry standards will allow your company to respond to these trends in good time, and optimize your business efficiency by eliminating redundancies and extraneous costs.

How to calculate Gross Profit Margin

To calculate Gross Profit Margin, subtract the COGS of a certain period from the revenue of the same period. Divide by the same revenue amount, and multiply this answer by 100 to obtain a percentage.

How to increase Gross Profit Margin

The best way to increase Gross Profit Margin is to eliminate inefficiencies in your business structure. Of course, if you happen to be in a favorable market position where you can sell your product or service at a premium, your Gross Profit Margin will be accordingly high.

However, in order to know if you can actually do this, you’ll need to be aware of the current industry benchmarks for Gross Profit Margin. Unfortunately there is no real general benchmark for this KPI. As it varies widely by industry, it’s best to do your own homework to determine what the Gross Profit Margin standard is for your industry in your particular market context.

Other KPIs similar to Gross Profit Margin include:

• Conversion Rate
• Working Capital
• Operating Cash Flow (OCF)