What Is Gross Profit?

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What Is Gross Profit?

Let me explain gross profit to you directly: it's the profit a company has left after subtracting the costs tied to producing and selling its products or services. You might hear it called sales profit or gross income. On the income statement, you calculate it by taking total revenue and deducting the cost of goods sold, or COGS. Remember, this isn't the same as operating profit, which comes after subtracting operating expenses from gross profit.

Key Takeaways on Gross Profit

Gross profit goes by gross income too. You get it by subtracting COGS from revenue. It usually covers variable costs that change with production, but leaves out fixed ones like rent, insurance, and admin expenses. This metric shows you the profit per sales dollar after COGS. The formula for the margin is (Revenue - COGS) divided by Revenue times 100.

Formula for Gross Profit

Here's the straightforward formula: Gross profit equals net sales minus COGS. Net sales is basically revenue—the total money from sales in a period, including adjustments for discounts and returns. It's the top line on the income statement. COGS covers direct costs for producing goods, like direct labor and materials.

Calculating Gross Profit

When you calculate gross profit, you're assessing how efficiently a company uses labor and supplies for its goods or services. It ignores fixed costs—those you pay no matter the output, like rent, advertising, or insurance. Instead, it zeros in on variable costs that rise or fall with production, such as materials, direct labor (if it's tied to output), sales commissions, credit card fees, equipment depreciation based on use, production site utilities, and shipping. Under absorption costing, which GAAP requires for external reports, you assign some fixed costs to each unit produced. For example, if a factory makes 10,000 widgets and pays $30,000 in rent, that's $3 per widget in COGS. Your gross profit can differ based on whether you use absorption or variable costing—absorption includes fixed costs in COGS, often lowering gross profit, while variable costing keeps them separate for a higher figure.

Gross Profit vs. Gross Profit Margin

Gross profit leads into gross profit margin, which tracks production efficiency over time. It tells you how much profit comes from each sales dollar after COGS. Be careful comparing gross profits across periods—they might increase while margins decrease, which can mislead. Gross profit is a dollar amount, but the margin is a percentage: (Revenue – COGS) divided by Revenue times 100.

Gross Profit vs. Net Income

Don't confuse gross profit with net income, or net profit. Both gauge financial health, but differently. Net income is the bottom line after all expenses, including operating costs, taxes, and interest. Gross profit is just revenue minus COGS, focusing on product costs. It helps you see management of production, labor, materials, and spoilage. Net income adds in admin, rent, insurance, and taxes to check overall profitability.

Example of Gross Profit

Take ABC Company's income statement: revenues from automotive at $141,546 million, financial services at $10,253 million, other at $1 million, totaling $151,800 million. Costs include automotive COGS at $126,584 million, plus other expenses. Subtract COGS from total revenue: $151,800 - $126,584 = $25,216 million gross profit. The margin is $25,216 divided by $151,800, or 16.61%. That's typical, though margins vary by industry, often 20% to 40%.

Advantages of Using Gross Profit

Gross profit lets you isolate how well a company performs on its core products or services, cutting out noise from admin or operating costs. This helps with strategic thinking on product performance and cost controls. It's more controllable too— you can adjust revenue and COGS elements more than fixed costs like utilities or rent.

Limitations of Using Gross Profit

Income statements from financial services might show varying gross profits, especially for private companies where you need to check non-standardized items. It's a high-level metric, so if gross profit lags competitors, dig into revenue streams and COGS components. For service companies like law offices with no COGS, gross profit equals revenue, which can overstate performance without considering other costs.

What Does Gross Profit Measure?

Gross profit measures revenue minus COGS, evaluating efficiency in managing labor and supplies for production. It includes variable costs like labor, shipping, and materials that change with output.

What Is an Example of Gross Profit?

If a company has $100,000 revenue and $75,000 COGS, gross profit is $25,000, excluding SG&A expenses.

What Is the Difference Between Gross Profit and Net Profit?

Gross profit is revenue minus production costs, showing earnings from products. Net profit subtracts all expenses from revenue, indicating overall profitability and management effectiveness.

How Do I Calculate Gross Profit?

Subtract COGS from net revenue, where revenue accounts for returns and discounts, and COGS covers production expenses.

The Bottom Line

By subtracting COGS from net revenue, you gauge how well a company handles its product side. This helps check pricing, material use, and labor costs without admin overheads.

What Is Gross Profit?

Highlights