- Calculate gross and net profit margins
Gross profit is the difference between sales and cost of goods sold.
The gross profit percentage is gross profit divided by sales and measures how effectively a company generates gross profit from sales or controls cost of merchandise sold.
The calculation for gross profit percentage is as follows:
[latex]\dfrac{\text{gross profit}}{\text{sales}}[/latex]
For example: [latex]\dfrac{580,000}{994,000}=58.4\%[/latex]
| Description | 2019 |
|---|---|
| Sales | $994,000 |
| Cost of merchandise sold | 414,000 |
| Gross Profit | Single Line$580,000 |
| Net income | Single Line$248,000Double Line |
Similarly, you could calculate a net profit and net profit percentage:
The calculation for net profit is as follows:
[latex]\dfrac{\text{net profit}}{\text{sales}}[/latex]
For example: [latex]\dfrac{248,000}{994,000}=24.9\%[/latex]
| Description | 2019 |
|---|---|
| Sales | $994,000 |
| Cost of merchandise sold | 414,000 |
| Gross Profit | Single Line$580,000 |
| Net income | Single Line$248,000Double Line |
The gross profit ratio looks at the main cost of a merchandising business—what it pays for the items it sells. The lower the cost of merchandise sold (or COGS), the higher the gross profit, which can then be used to pay operating expenses and to generate profit.
The net profit ratio shows what percentage of sales are left over after all expenses are paid by the business.
In addition, you could calculate ratios based on operating income, net income before tax, or any other subtotal or line item on the income statement.
Let’s try a few calculations to practice this ratio.