As a business owner you’ll already know that there’s a whole host of ways to measure profitability. One of these ways is to measure gross profit and your gross profit margins. Of course there are numerous methods and lots of figures you can use as an indicator but gross margin is very important. As a general rule, the higher it is, the healthier your business is so it’s a key factor in determining and managing your business’ health.

## What is gross margin?

A gross profit margin is the difference between sales and the cost of goods sold divided by revenue. This represents the percentage of each pound of a company’s revenue available after accounting for cost of goods sold.

## How do I calculate gross margin?

To calculate a gross margin simply add together sales and subtract costs of goods sold. To get a percentage of revenue simply divide by revenue (Gross Margin (%) = Revenue – Cost of Goods Sold/Revenue).

For example, if a business earns 32 million in sales but pays 24 million for the items sold, then the company’s GPM would be (32M – 24M) / \$32M = 25 percent.

If you can cut costs as a business you can increase your profit margin. For example, if you sell a product for £500 and the cost of the producing the phone is £250, the current gross profit margin is 50 percent ((500-250)/500). If you can reduce production costs from £250 to £200, the GPM is 60 percent ((500-200)/500).

So to reiterate…

Gross margin is the calculation of how much it costs your company to get your product or service in to the customer’s hands taking away the cost of the goods or service. For hard goods this should include the cost of shipping to you and the costs that help you to keep the lights on at the business.

It is important to bear in mind however, that the calculations you take into account to find your business gross margin will vary from industry to industry and your company goal. This will also vary depending on whether you are selling a service or physical product.

## Why is it important to know this by product / service?

By knowing the gross margin on all the products or services you sell you are better placed to price yours accurately within your market.  Many businesses fail because their costs are too high and pricing is too low. Determining what your product or service is going to cost to be ready for sale is extremely important.

It’s also important to keep in the forefront of your mind that gross margins change. This can be due to increased or reduced costs and through increased or decreased inefficiencies throughout the company but by not paying attention to or ignoring these margins you are doing your business a disservice. A business’s gross margin is a great KPI of your company’s health.

## What can you do to improve the gross profit margin?

As mentioned above, gross profit margins will vary from industry to industry and business to business. However, if your gross profit margin is not looking as healthy as you would like or as healthy as you need it to be you have two options: Increase your prices, or reduce your costs.