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Calculation For Gross Margin
Here you can find process of calculation for Gross Margin. Explore how to calculate this ratio and what it does reflect.
Gross Margin or you can also find out that it might be called Gross Profit Margin is a difference between Sales Revenue and Cost Of Goods Sold divided by Sales Revenue. This ratio indicates how much Gross Profit was earned per one $ of Revenue.
Basically this ratio is an indication of whether the business is able to generate enough sales revenue to cover direct expenses and have a sufficient remaining amount (Gross Profit) which is necessary to cover other expenses like selling, general and administrative, which cannot be directly attributed to the cost of goods sold or services provided.
Calculation for Gross Margin requires the following:
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Sales Revenue from the Income Statement
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Cost of Goods Sold (Services) provided
Using this data we calculate a difference between Revenue and Cost of Goods Sold (Services provided) and divide this difference by Sales Revenue.
On a stand alone basis this ratio can only show whether the business was able to generate profit from the sale of goods or provision of services taking into account only direct expenses. In order to estimate whether such profit is sufficient, it is necessary to look into the other years of the same business and into the financial data of other businesses.
Also it is important to analyze whether Gross Profit is sufficient to cover other expenses which the business incurs over the same accounting period.
Below you can find a simple example how this ratio is calculated:
In the above example there is a quite high gross margin earned. Of course it is essential to know the area of activities the business is involved in, compare this data with the other similar businesses, take into account other different aspects in order to judge whether such Gross Profit Margin is adequate.
Nevertheless, the above explanation and example will allow you to know how this ratio is calculated and be able to calculate it when necessary.
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