Gross Margin (Gross Profit Margin)
Gross profit — revenue minus the direct cost of making the product (cost of goods sold) — as a share of revenue; the topmost layer of profitability.
Gross Margin = Gross Profit ÷ Revenue × 100
A higher gross margin means there's power to sell at a high price relative to cost.
In plain terms
If a bakery sells a loaf for $1 and the ingredients like flour and butter cost $0.40, then $0.60 is left from each loaf. That's 60% of the revenue remaining. That 60% is the gross margin.
What gets subtracted here is only the "cost that went directly into making the product (cost of goods sold)." Advertising, administrative costs, rent and the like haven't been taken out yet. So gross margin sits at the very top of the profit layers — the "first-stage profitability with only costs removed."
What it tells you
Gross margin is the first thing that shows "how much a company can add on top of cost when it sells" — that is, its power to set prices (pricing power). The stronger the brand or the fewer the substitutes, the higher it tends to be.
Operating profit and net profit come from subtracting selling expenses, administrative expenses, and taxes from here in turn. So gross margin is the starting point for every profit margin, and if it's low, there's a limit to how much trimming costs at the later stages can do.
Formula
Gross Margin = Gross Profit ÷ Revenue × 100 Gross Profit = Revenue − Cost of Goods Sold (COGS)
What high or low means
A higher gross margin means there's power to sell at a high price relative to cost. Software, which costs almost nothing to copy once it's made, often runs in the 80% range, while distribution and manufacturing that buy and resell goods are typically in the single digits to the 30% range.
A rising trend can be read as a sign that prices were raised or costs fell; a falling trend, as a sign of rising raw material prices or losing ground to price competition.
The normal level differs completely by industry, so gross margin alone doesn't settle which company is better. A business with thin margins that sells a lot quickly (a supermarket) and one with thick margins that sells little (luxury goods) simply earn in different ways.
Companies differ in how far they draw the line on "cost of goods sold." A company that puts logistics costs or depreciation into COGS and one that puts them into SG&A will show different gross margins, so even within the same industry a 1:1 comparison can be off.
Even with a healthy gross margin, if selling and administrative costs below it are heavy, the operating margin can drop sharply. Instead of looking only at the number one step up, check the operating margin too to see how much is actually left.
Metrics to read alongside
See it in real stocks
Search US stocks on Stocklore to see SEC-filing-based financial metrics alongside the sector benchmark.
This explanation is for information and reference only and is not a recommendation to buy or sell any security. Investment decisions and their consequences are your own.