What this lesson is about
One percentage, calculated in seconds, that instantly reveals more about a business's fundamental economics than almost any other single figure.
Part 1 of 2
Gross margin is simple to calculate. It's revenue minus the cost of goods sold, divided by revenue. This number reveals a lot about any company. It shows the basic economics of a product or service, before considering other expenses. It answers a crucial question: after covering direct production costs, how much of each revenue dollar is left to pay for R&D, marketing, administrative costs, and profit?
Gross margin varies significantly by business model. Software companies often boast high gross margins, usually between 70% and 90% or more. That's because delivering another copy of a product costs very little. In contrast, grocery retailers and commodity manufacturers typically have lower gross margins. They need to physically buy and deliver each additional unit sold. This isn’t about which company is better run; it’s a structural difference in their business models.
Quick check
How is gross margin calculated?
Gross margin measures the share of each revenue dollar left after covering only the direct cost of producing or delivering the good or service, before any other operating expenses.
Part 2 of 2
Quick check
What does gross margin specifically exclude that operating margin and net margin do include?
Gross margin stops at cost of goods sold; operating and net margin continue subtracting further layers of cost.
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