Calculating Gross Profit and Gross Profit Margin

What is gross profit?

Gross profit is the difference between sales revenues and cost of goods sold

What is that he equation for gross profit margin?

Gross Profit Margin % = Gross Profit £ / Sales Revenue £

What are the interpretations of gross profit margin?

• Look for changes from over one year to another (and compare with other similar businesses)

• E.g. A fall in gross profit margin might suggest higher costs from suppliers or a decision to sell at lower prices

• E.g. An increase in gross profit margin might reflect better buying from suppliers or selling price rises

Advantages and disadvantages of using profit margin?

• It’s a quick method for showing the margin on the company’s products and lines of business.

• It can also serve as a barometer of a business’s management or sales organisation.

• It provides a benchmark for comparing a company’s performance with competitors.

• It can highlight areas with opportunities for improvement—for example, if one product or service has higher gross profit margins than others, that could point to an opportunity to reduce COGS or shift the sales strategy for other product lines.

• It can be used to help set pricing at a competitive level while ensuring products are still profitable.

What are the limitations of gross profit margin?

• It doesn’t show a company’s overall profitability because it doesn’t include all costs.

• Without proper context, it may present an inaccurate view of profitability. For example, a company may need to pay more for raw materials temporarily if several suppliers in a certain region close after a flood, or it may discount heavily in order to capture market share.

• It is less valuable for comparing companies across different industries. Average gross profit margin varies by industry sector, largely because of differences in COGS