Calculating your gross profit
Gross profit is how much money you’ve made from selling your inventory before taking in account overhead costs, like labour and rent.
Calculating your gross profit is part of completing your profit and loss statement.
To calculate gross profit, you need to subtract the costs of goods sold (which is how much you paid for the inventory you’ve sold) from sales revenue (which is how much your customers paid for the inventory you’ve sold them).Gross profit = Total Sales minus Cost of Goods Sold.
Here are some simple examples of gross profit:
- For the 2013-to-2014 financial year, Jim got $120 000 dollars from selling bricks. The bricks Jim sold cost him $100 000, so Jim’s gross profit of $20 000.
- For the 2010-to-2011 financial year, Sally made $180 000 by making and selling chairs. The materials Sally used to make the chairs cost her $30 000, so her gross profit was $150 000.
Calculating your gross profit margin
Calculating your gross profit margin is important as it shows that your sales are sufficient to cover your costs. The gross profit margin ratio shows the proportion of profit for each sales dollar before expenses have been paid.Gross profit margin = Gross Profit / Sales : 1.0
An acceptable gross profit margin ratio varies from industry to industry but in general the higher the margin the better. To improve your gross profit margin, you can increase your prices or reduce the costs of producing or acquiring your goods (or both). Increasing your prices can impact your sales revenue however, so you need to consider this carefully.
What to do...
- Read more about analyse your finances to help you understand your financial position.
- Read about pricing before you decide on your pricing strategy.
- Browse inventory management for information on ordering, storing and distribution stock, as well as how to calculating the costs and turnover of your inventory.
- See our What is customer service? topic for information on providing good customer service, and finding and keeping loyal customers.