Description
Gross Margin is the portion of revenue remaining after taking off the cost of goods sold (COGS) for the period. Since it only considers direct costs, gross margin tells a company how much profit it has remaining to cover its fixed costs and non-operating expenses.
Example
For example, a company makes $10 million in revenue and its cost of goods sold is $3 million. Thus, its gross profit will be $7 million.Gross profit margin = (Revenue - COGS)/Revenue= (7 / 10 ) *100 = 70%. This means the company has earned $0.70 in gross profit for every $1 of revenue.
Why it matters
Gross margin is a key financial metric that shows a company's efficiency in sales-to-profit conversion. It tells how efficiently a company can control its production costs. Investors and stakeholders may compare the company's gross margin against its competitors and across multiple reporting periods to gauge its efficiency improvement.