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How to calculate gross profit (formula included)
Find out how to calculate gross profit margin, and how this figure can help you get a deeper understanding of your business health and make informed strategic decisions.
When you learn how to calculate gross profit, you’ll unlock an important metric that can tell you a lot about the wellness of your business.
Unlike net revenue, Gross Profit can tell you how much your business is making after you’ve spent what’s necessary to manufacture your products.
Calculating gross profit is easy, especially for Shopify users. Tresl Segments also uses this metric to help you segment your audience and refine your marketing strategy.
If you’re new to the idea of gross profit, this article will explain what it is, how to calculate it, and why it’s important for your business.
Table of Contents
Quick Definition: What is gross profit?
Gross Margin vs. Gross Profit: What’s the difference?
What can you learn from your gross profit?
. #.What is Gross Profit?. |
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| a Gross product is the amount you earn from sales, once you subtract your cost of goods sold (CoGS), discounts, and refunds. Some people augment their gross profit by also calculating what’s known as gross profit after advertising cost (GPAAC). This figure includes the expenses you invest in marketing and converting new customers or retaining existing customers. a |
What Is Gross Profit?
Gross product is the amount you earn from sales, once you subtract your cost of goods sold (CoGS), discounts, and refunds.
Some people augment their gross profit by also calculating what's known as gross profit after advertising cost (GPAAC). This figure includes the expenses you invest in marketing and converting new customers or retaining existing customers.
Gross Profit Formula
Gross profit = Net revenue - Cost of Goods Sold
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To fill out your own gross profit formula, you’ll need to gather a few other figures from your business. The gross profit calculation plays a crucial role in measuring the profitability of your products or services and identifying components or projects that may be underperforming. Understanding the significance of the 'gross profit margin formula' is essential in determining the percentage ratio of revenue retained after deducting the costs of goods sold, thereby assessing the overall profitability of your products or services.
Gross Revenue
The first figure you’ll need is your gross revenue—the total sales you made in any given period, without subtracting anything like expenses or cost of goods. However, to more accurately assess your financial performance, you should consider your net sales, which is your gross revenue adjusted for returns, discounts, and allowances. This adjustment is crucial for calculating your gross profit margin, as it involves subtracting the cost of goods sold from net sales, providing a more precise measure of your business's profitability and competitiveness.
For example, if you sell a product for $200, your gross revenue from that product would simply be $200, even if you spend $125 to make said product. To calculate the gross profit margin, you would subtract the cost of goods sold from your net sales, not just the gross revenue, to get a clearer picture of your financial health.
Net Revenue
This figure refers to the “bottom line” your company earns, after you have subtracted out the discounts, returns, and any commissions you pay on your products.
You can use this formula:
Gross revenue = Total sales - (Discounts + Returns + Commissions)
For example, let’s say your gross revenue over a 6-month period was $50,000. However, you spent $18,000 on returns and discounts. Your net revenue would be $32,000.
Cost of Goods Sold (CoGS)
Finally, you’ll need to calculate your cost of goods sold (CoGS)—essentially, how much it costs you as a business to make the products you sell, focusing on the direct costs and variable costs directly tied to production. Direct costs, such as the cost of materials and labor expenses to produce products, are crucial for understanding your business's performance and comparing it to industry averages. Variable costs, including labor, material, and other expenses that fluctuate with production volume, like credit card and payment fees, equipment necessary for manufacturing, and production site expenses (like electric bills, etc.), significantly impact the gross profit margin by affecting operating efficiency.
Note that CoGS is not the same thing as operating expenses or fixed costs—things like how much you pay employees or what you pay in rent for your offices.
When calculating CoGS, consider:
- The cost of materials
- Labor expenses to produce products
- Credit card and payment fees you pay
- Equipment necessary to manufacture products
- Production site expenses (like electric bills, etc.)
In Shopify, you can find CoGS as the “cost per item” for each product variant.
Once you have calculated all three of these figures over the same time period, bring them all together in the formula above, and voila- you have everything you need to calculate gross profit and therefore your gross profit margin also.
Gross Margin vs. Gross Profit: What’s the difference?
We’re going to discuss the benefits of understanding your gross profit, but before we do, there’s another term that you should understand: Gross margin.
Gross margin vs gross profit can be tricky to understand, because both figures measure how much revenue your company makes after removing CoGS.
The difference is that gross profit gives you a fixed dollar amount, while gross margin gives you a ratio or percentage.
Note the subtle difference in how you calculate gross margin vs. gross profit:
Gross margin formula
The main benefit of calculating gross margin is that it makes it easy to compare how profitable your business is compared to other companies in the same industry.
NYU published a good study of average gross margins in January of 2022, and we’ve sampled some of that data below:
What can you learn from your gross profit?
Once you know your gross profit, you will have a deeper understanding of how efficiently you are producing and selling your products. You’ll be able to see exactly how much revenue you make after you’ve paid to produce the products you sell.
Understanding your gross profit allows you to assess what constitutes a good gross profit margin, which is essential for comparing your business model with competitors and making informed decisions. A high gross profit margin indicates financial health and operational efficiency, suggesting that your business is on the right track. However, it's important to note that a good gross profit margin varies widely by industry and company size. For instance, retailers might consider a lower margin acceptable compared to manufacturers due to differences in their cost structures and pricing strategies.
This insight into gross profit margins enables you to find ways to increase efficiency and earn more when it comes to your bottom line.
For example, let’s say you manufacture and sell custom dog toys. Your most popular item, the squeaky hamburger, sells for $6.80. Your slightly less popular rainbow rope toys sell for $6.00.
When you calculate gross profit, you find that you’re spending $4.50 to make each squeaky hamburger, and only $2.00 to make a rainbow rope toy.
That means there’s a big difference between the gross profit of these two items. Your gross profit for the rope toys is $4.00, and the hamburgers only net you $2.30. It’s easy to see how the rope toys are far better for your bottom line at this stage.
Once you know this, you can make a few decisions. Perhaps you decide to raise the cost of the squeaky hamburgers, to compensate for the difference in gross profit. Or maybe you promote the rope toys more in your marketing, to increase sales on one of your most profitable items.
Discovering your gross profit & gross profit margin is only one of the many ways data can help you run a leaner, smarter business. Hungry for more? Sign up for our newsletter for our best advice on how Shopify users can use data to improve their bottom line.
Sharad Thaper
Alex Greifeld
