Gross Profit Margins give you an indication whether your small business is generating
earnings. This is a vital sign to the health of your business. Without profitably
revenue, no business whether large or small will be able to survive very long.
Photo Credits: 3D Money - Owais Khan, Money - Gabriella Fabbri
Step 1: Gross Profit - A Component of Gross Profit Margins
A key element of the Gross Profit Margins is obtaining the Gross profit of your business.
Gross Profit is the amount of money left over after the goods acquired have been
paid. Here is the Gross Profit formula:
Step 2: Gross Profit Margins Calculation
Once the Gross Profit value is determined, it can be used to generate your Gross
Profit Margins. Gross Profit Margin is the percentage of each dollar remaining after
cost of goods acquired has been paid. Generally, the higher the percentage, the
better condition is the business in. Here is the Gross Profit Margin formula:
Gross Profit = Revenue - Cost of Goods
Revenue is how much did you generate in sales.
There are two kinds of cost of goods: variable and fixed.
Variable costs are those which change based on the quantity of goods being produced.
Examples of variable costs are: labor, materials, and utilities.
Fixed costs are those which do not change regardless how many goods are being produced.
Examples of fixed costs are: office, salary, rent.
A positive gross profit number means that you are generating earnings. A negative
gross profit number means that you are losing money.
You take your gross profit calculated from step 1 and divide that by your sales dollars.
The resulting percentage is a barometer of the health of your business. You can
track this percentage overtime to monitor your progress.
If you want to increase your gross profit margin percentage, there are two ways to
accomplish this goal. You can either increase prices or reduce variable costs. Be
cautious about any price increase because of competition and also what the consumer
will be willing to bear. You can reduce variable costs by finding less expensive
suppliers for your materials.
Gross Profit Margin = Gross Profit / Sales
Example of Gross Profit & Gross Profit Margin Calculation
Gross Profit: $100,000 revenue - $40,000 cost of goods