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How to Calculate Margin Percentage. In this example, the gross margin is $25. This results in a 20% gross margin percentage: Gross Margin Percentage = (Gross Profit/Sales Price) X 100 = ($25/$125) X 100 = 20%. Not quite the “margin percentage” we were looking for.
- 1 Build an Operating Budget
- 2 What Is the Difference Between a Firm's Before Accounting Profit and After Accounting Profit?
- 3 What Does It Mean If You Have a Lot of Gross Profit But Very Little Net Income?
- 4 Expense-To-Sales Ratio
Keeping pulse of the financial health of your company is essential. By understanding trends in metrics such as profit margin, you are able to look for ways to increase efficiency or scale up production. You want to know the profit formula. There are two ways to look at the profit margin: gross profit margin and net profit margin. Here's how to identify when to use which and the formulas to calculate them.
Net vs. Gross Profit
Gross profit is the difference between revenues and the cost of goods sold (COGS). Cost of goods sold includes static labor costs, materials and other standard operational costs. It doesn't include administrative expenses such as marketing and selling the products to other businesses or consumers. These numbers along with taxes and interest are subtracted from gross profit to calculate the net profit.
Calculating both the gross and the net profit margin helps a business owner see where costs are really going. For example, if there is a strong gross profit margin but a weak net profit margin, the business leader might need to consider how effective his marketing and sales teams are. Either he needs to reduce those costs or retarget his efforts to generate more revenue from those efforts.
Gross Profit Margin Formula
While gross profit is a dollar value, gross profit margin is a percentage expressed initially in decimal form.
- Gross Profit = Revenues - COGS
- Gross Profit Margin = (Revenues - COGS) / Revenues
You can look at gross profit margin from a macro level or a micro level. At the macro level, you consider the entire amount of revenue captured for the company from all lines of business. On a micro level, you consider each individual line to determine its viability in the overall marketing scheme.
Gross Profit Margin Calculation
For example, assume the Best Pen Company generated $100,000 in revenues for all pens sold. It cost $80,000 to produce all the pens. The gross profit margin is .20 = ($100,000 - $80,000)/$100,000. To become more profitable, the company might try to make production more efficient dropping COGS to $75,000 leaving a gross profit margin of .25 = ($100,000 - $75,000) / $100,000. That's the macro level.
The micro level might consider the most expensive pen sold which generated $30,000 with COGS of $5,000. The gross profit margin for this one product line is: .83 = ($30,000 - $5,000) / $30,000. Even though it is an expensive product, it has a high profit margin and markup.
Net Profit Margin Formula
Net profit margin looks at the entire profitability of the company after all the bills are paid include taxes and any loan interest. In business circles, net profit margin and net margin are synonymous.
- Net Profit Margin = Net Profit / Total Revenues
Using our example of the Best Pen Company, assume the revenue remained at $100,000 and the COGS remained at $80,000. The gross profit is $20,000 ($100,000 - $80,000). Now subtract another $5,000 in administrative costs that include sales, taxes and interest. This leaves $15,000 in net profit. Plugging in this number with the total revenue number ($15,000/$100,000), the net profit margin is .15 or 15 percent.
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About the Author
With more than 15 years of small business ownership including owning a State Farm agency in Southern California, Kimberlee understands the needs of business owners first hand. When not writing, Kimberlee enjoys chasing waterfalls with her son in Hawaii.
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Leonard, Kimberlee. 'Formula for Finding Profit Margin.' Small Business - Chron.com, http://smallbusiness.chron.com/formula-finding-profit-margin-13278.html. 09 April 2019.
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