What is gross margin?

Gross margin is defined as the difference between revenue and cost of goods sold (COGS), expressed as a percentage of revenue. This metric is crucial for understanding how efficiently a company is producing its goods or services since it shows the portion of revenue that exceeds the direct costs associated with producing those goods or services.

When calculating gross margin, you take the total revenue generated from sales and subtract the COGS, which includes all direct costs related to the production of the goods sold. The resulting figure indicates how much money is left over to cover operating expenses, taxes, and profit. By expressing this value as a percentage of total revenue, gross margin gives a clear picture of the financial health of a company related to its core operational activities.

For example, if a company has a revenue of $100,000 and COGS of $60,000, the gross margin would be calculated as follows:

1. Subtract COGS from revenue: $100,000 - $60,000 = $40,000 (gross profit).

2. Divide gross profit by total revenue: $40,000 / $100,000 = 0.4.

3. Convert to a percentage: 0.4 x 100 = 40%.