How To Calculate Gross Profit Percentage & Why It’s Important

Key Takeaways


As you start to grow your business, you’ll want to learn how to calculate gross profit percentage sooner rather than later. It’s a formula commonly used by business owners, investors, and financial analysts to size up the profitability of a business. It’s also a helpful figure for you to know so that you can compare your business to competitors, as well as track your financial health over time.

What Is Gross Profit Percentage?

Gross profit percentage measures the profitability of your business. More specifically, it expresses the percentage of money you’ve made from selling a product or service after accounting for the cost of sales or production.

Generally speaking, business owners want their gross profit percentage to be as high as possible. It measures how efficiently a company can use its cost of production to produce and sell products profitably. A high gross profit percentage signals a healthy business.

Calculate gross profit

Gross Profit Formula

Before we give you the gross profit formula, there are a few terms you need to know. That way, you’ll better understand what the formula represents and what figures you’re calculating.

  • Cost of Goods Sold: Cost of Goods Sold is referred to as COGS for short and is a common accounting term you should know. COGS is the total direct cost of making or selling your product. COGS includes direct inputs such as raw materials or labor.

  • Gross Profit: Gross profit is what is left over of your profit after you’ve subtracted your cost of goods sold.

  • Revenue: Revenue is all the income that’s been made from selling your good or service. You can calculate your sales revenue by multiplying the quantity of sold product by the price of your product.

Although the formula itself is simple and easy to calculate, there are a few steps that go into figuring out the variables that go into the formula. This is where knowing the definitions above will come in handy. Here is what the gross profit formula looks like:

Gross Profit Percentage = (Gross Profit / Revenue) x 100%

What Can Gross Profit Margin Tell You?

Now that you know what variables go into calculating gross profit margin, you’re probably wondering what it actually means.

As mentioned before, a high gross profit margin is a good indicator that your business is in good financial health. This is very valuable information about your business that can be used by yourself, your competitors, and investors. Since it’s a simple metric, business owners and investors alike love to use gross profit percentage to quickly compare one company’s profitability against its competitors.

Your gross profit margin shows just how efficiently you can churn out goods or services, relative to your costs. Expressed as a percentage, it also tells you how much of your earnings you’re able to recover after your costs.

It can also be a powerful tool to help you analyze how to make your business more efficient. For example, let’s say you’ve owned your business for around 5 years. Your gross profit percentage suddenly decreases after the fifth year, or perhaps it remains stagnant when it should have improved. This helps to warn you that you potentially have a weak spot; either in your production, pricing, or sales processes. Then, you can start to investigate and figure out where your inefficiencies are, and how to improve them.

It’s also important to be aware of some of the shortcomings associated with gross profit percentage. First, it won’t tell you everything. We just mentioned before that it can help identify when you have a weak spot. However, it won’t tell you exactly where that weak spot is, which will require some guesswork. Second, it doesn’t perfectly indicate the overall profitability of a company. A company, for instance, could have a great gross profit percentage, but a weak sales volume that won’t be sufficient to cover expenses that aren’t included in the formula. Alternatively, a company with a low percentage point could have high profitability if they unexpectedly blow up in sales.

Overall, gross profit percentage is still a great financial tool. As always, it’s important to understand how the formula works, and what its variables mean. This way, you can always take your results with a grain of salt.


[ Do you have what it takes to run your own real estate business? Register for a FREE real estate class offered in your area, where you can learn from experts how to replicate successful business systems. ]


How To Calculate Gross Profit Percentage In 5 Steps

The gross profit percentage formula is super simple and easy to calculate. However, you’ll need to prepare by gathering the information needed in the formula. Here are 5 easy steps you can follow so that you can start calculating your gross profit percentage in no time.

  1. Find out your total sales revenue. Your total sales revenue is a factor used in both the numerator and denominator in the formula. You can find your revenue by finding the line item on your income statement.

  2. Add up your COGS. The numerator in the gross profit percentage formula is the gross profit, which you’ll need to calculate using your costs of goods sold. You can find it as a line item on your income statement and it is calculated by adding up all your direct inputs.

  3. Calculate your gross profit. To calculate your gross profit, simply subtract your COGS (found through the step above) from your total sales revenue.

  4. Divide gross profit by revenue. Now, we’re ready to apply the gross profit margin formula. Take the gross profit you’ve calculated and divide it by your total sales revenue.

  5. Convert your dollars to a percentage. If you think the result you just got looks odd, that’s because you’re not quite done yet. Gross profit margin is expressed as a percentage, so you must multiply the resulting number by 100% to get the correct result. Now, you’ve learned how to calculate gross profit percentage!

Gross margin

Example Of Gross Profit Percentage

Now, let’s solidify the information learned thus far by applying it to an example. Let’s say you own a company called Real Estate Rules, LLC. You manufacture and sell rulers and measuring tools specifically for real estate contractors.

The first step is to find out your total sales revenue. You look at your income statement from the most recent fiscal year and note that your revenue was $100,000.

In the next step, you’ll need to add up your cost of goods sold (COGS.) It’s included in your income statement, but you want to use this opportunity to re-calculate it yourself just to be sure. You add up your employee wages, cost of raw materials, and other overhead. As a result, you find that your COGS in the last fiscal year was $50,000.

In step three, calculate your gross profit by subtracting your COGS of $50,000 from your total sales revenue of $100,000. The resulting number is $50,000.

Gross Profit = Sales Revenue – COGS

($100,000 – $50,00) = $50,000

Gross Profit = $50,000

Next, divide your gross profit by your revenue:

Gross profit / revenue = $50,000 / $100,000 = 0.5

Finally, convert your dollars into a percentage by multiplying the resulting number by 100 percent:

Gross Profit Percentage = (Gross Profit / Revenue) x 100%


0.5 x 100% = 50%

In the last fiscal year, Real Estate Rules, LLC had a gross profit percentage of 50 percent.

Summary

Your endeavor of becoming a more savvy business owner shouldn’t stop at just learning how to calculate gross profit percentage. What’s important is what you’ll do with this information. In the example above, we found that the gross profit percentage for the example company was 50 percent. The business owner might first look at their records and see how this number compares to those of years past. Has the gross profit percentage increased or decreased? If it increased, then it’s a good sign that the company’s financial health has improved. If it’s decreased, then it’s a great signal that the business owner should investigate if any weak spots should be addressed. It can be quite surprising how informative and powerful such a simple formula can be.

Do you feel more confident in calculating the gross profit formula now? Did you think of any other ways gross profit percentage could come in handy for your business? Let us know in the comments below!

Ready to start taking advantage of the current opportunities in the real estate market?

Maybe you have plenty of capital, an extensive real estate network, or great construction skills— but you still aren’t sure how to find opportunistic deals. Our new online real estate class, hosted by expert investor Than Merrill, can help you learn how to acquire the best properties and find success in real estate.

Click here to register for our 1-Day Real Estate Webinar and get started learning how to invest in today’s real estate market!

🔒 Your information is secure and never shared. By subscribing, you agree to receive blog updates and relevant offers by email. You can unsubscribe at any time.
Real Estate Investing Strategies
Real Estate Investing Strategies
Real Estate Investing Strategies
Real Estate Investing Strategies
Real Estate Investing Strategies
Real Estate Investing Strategies