What is Gross Margin Value? What is the formula and why it is important

Do you ever find yourself assessing your business and wondering “how much of this month’s revenue was pure profit?” If so, then understanding the concept of gross margin is essential to maximizing profits in any organization. Gross Margin Value is an incredibly powerful metric that provides valuable insight into the performance and efficiency of a business, providing judgement on how productive assets are being used. In this comprehensive guide, we’ll explore what gross margin value is and why it’s important for all businesses to be paying attention to this key financial indicator. So if you’ve been wanting to better understand just what exactly “gross margin” means for your company, then read on!

What is Gross Margin Value?

Gross margin is an essential metric that reveals the profitability of any given business or product. It indicates how much revenue a company can generate after subtracting the cost of goods sold. The higher the gross margin, the more money can be allocated towards other expenses, such as investments and operating costs. As a result, calculating and tracking gross margin is key to any business’ success as it can provide insight into a business’s performance and ability to generate profits in the long-term.

Why Is It Important For Startups To Track Their Gross Margin Value?

Tracking gross margin value is an essential step for startups, as it helps them understand exactly what their profit margins are. Doing so enables businesses to monitor their sales more closely and get a better understanding of the cost to generate their profit.  Gross margin tracking also provides valuable insight into pricing decisions, allowing businesses to refine and improve their market research to set accurate prices. This can lead to further profitability or inform future decision-making regarding product mix and marketing strategies.  Lastly, if startups start tracking gross margin values early on in the life cycle, they are less likely to be caught off guard down the line when margins come under pressure from unexpected sources. All these reasons point to one conclusion: gross margin tracking is an invaluable tool for businesses looking to maximize their success in today’s competitive markets.

How Do You Calculate Gross Margin Value?

There are a few different ways to calculate gross margin, but the most common is to take your total revenue and subtract your cost of goods sold. This will give you your gross profit, which you can divide by your total revenue to get your gross margin value. Here’s the formula: Total Revenue – Cost Of Goods Sold / Total Revenue × 100 = % Gross Margin For example, if your company had total revenue of $100,000 and a cost of goods sold of $40,000, your gross profit would be $60,000. Divided by total revenue, this gives you a gross margin of 60%. Generally speaking, a higher gross margin is better, as it indicates that your company is making more money on each sale. However, there are some industries where a lower gross margin is perfectly normal, so it’s essential to put your gross margin in context.

What Factors Affect Gross Margin Value?

Gross margin value is a measure of profitability that shows the percentage of sales price remaining after costs have been deducted. It’s important for businesses to understand how certain changes in their operations can affect this figure, as it helps them determine where they can focus their efforts in order to maximize profits. There are several factors that can have an effect on gross margin value including:

Pricing:

Pricing is one of the most important factors when it comes to managing gross margin value. It’s important to set prices that are competitive in the marketplace and also reflect a healthy profit margin. If prices are too low, gross margin value will be adversely affected.

Cost of goods sold:

COGS also plays a role in gross margin value. This includes the cost of materials and labor used to produce a product. It’s important to keep costs as low as possible while still providing quality goods or services in order to maximize profits.

Overhead costs:

These are the expenses that are necessary to keep a business running but do not directly contribute to revenue. These can include rent, utilities, marketing, and other administrative costs. The more overhead costs that a business has, the lower their gross margin value will be.

Competition:

The level of competition in the marketplace can also have an effect on gross margin value. If there are many competitors offering similar products or services, businesses will need to lower their prices in order to stay competitive, which can negatively affect gross margin value.

Economy:

The overall economy can also play a role in the gross margin value of a business. If people are spending less or have less disposable income, businesses will need to lower their prices in order to attract customers. This can lead to a decrease in gross margin value. These are just a few of the factors that can affect gross margin value. It is important for businesses to be aware of these variables and understand how they can impact profitability.

What is A Good Gross Margin Value?

It is difficult to determine whether or not a business has achieved a good gross margin as it varies across different industries. While the overall average is above 30%, there is still a wide disparity in gross margin value between the automotive business (9.04%) and regional banks (99.75%), for instance. Generally, service industries that don’t sell physical products will have higher gross margins because they have a much lower cost of goods sold. A consultant or lawyer, for example, will not have as many expenses to meet when providing clients with their “goods.” In comparison, the manufacturing and food vendors must have higher upfront costs for equipment and raw materials to delivering purchasers a well-finished product. A good gross margin, according to investors in startups, is one that is above 50%. This means that the company has enough excess profit after paying for production costs to cover other expenses, such as salaries, rent, and marketing. Anything below 50% may be a sign that the company is not doing well financially. Using different industries as a base, we will determine whether or not a business has achieved a good gross margin value. Below are some averages for different industries as of January 2021, including their net profit margins and gross profit margins.

Industry	Gross Profit Margin	Net Profit Margin
Advertising	23.99%	0.34%
Apparel	49.77%	-3.94%
Auto and Truck	9.04%	1.4%
Banks (Regional)	99.75%	23.79%
Building Materials	28.38%	5.06%
Computer Services	27.16%	3.62%
Home Furnishings	27.03%	4.63%
Healthcare Products	56.94%	10.91%
Household Products	50.87%	11.71%
Machinery	34.50%	6.58%
Packaging and Container	22.39%	2.98%
Precious Metals	50.17%	15.79%
Recreation	37.58%	-2.12%
Restaurants and Dining	27.60%	5.69%
Retail (General)	24.27%	2.79%
Retail (Online)	42.53%	4.95%
Software (Internet)	58.58%	-5.60%
Transportation	19.91%	3.88%
Total Market*	36.22%	5.05%

Example of Gross Margin Value

For the fiscal year ending September 30th, 2017, Apple reported total revenue of $229 billion and COGS ($141B) as shown from their 10K statement below. 

The gross margin for 2017 was $88,186. Using the formula, it would be calculated as follows: ($299B – $141B) / $299B × 100 = 38% This concludes that for every dollar Apple generated in sales, the company got 38 cents as gross profit before paying other business expenses.

Strategies to increase Gross Margin Value

We gathered a few best strategies for you to increase your gross margin value:j

Optimize pricing 

Analyze your current product pricing strategies to see if there is any room for improvement. Consider adjusting prices based on customer segmentation, or bundling products together for better value.

Reduce costs

Identify cost-saving opportunities by evaluating supplier contracts and other agreements related to the production of goods and services.

Increase sales

Maximize revenue through effective marketing and selling strategies that target the right customers with the right message.

Improve product mix

Evaluate your product mix to see if you can offer higher-margin products or services that complement your existing offerings.

Manage inventory levels

Maintaining the right level of inventory is key to maintaining a healthy gross margin. Regularly monitor your stock levels and adjust accordingly.

Take advantage of technology

Automate processes, access data quickly and accurately, and reduce manual labor costs with the help of technology.

Streamline operations

Examine all aspects of the business for any processes that can be improved. Identify and eliminate inefficiencies to reduce costs and improve the customer experience.

Utilize data

Monitor key performance indicators (KPIs) to gain insights into customer trends, identify areas of improvement and determine ways to enhance profitability.  By implementing these strategies, you’ll be well on your way to increasing your gross margin value.

Conclusion

In summary, a company’s gross margin value is the difference between the cost of its goods or services and the selling price. This number provides insight into how much profit a company makes from each sale after factoring in the costs associated with making that product or providing that service. A high gross margin value indicates that a company is generating significant profit per sale and is therefore more likely to be financially successful overall. By understanding and calculating your company’s gross margin value, you can make informed decisions about pricing, production costs, and profitability.