Lisa Borga

Gross profit percentage is a way to measure the profitability of a company.

It does this by showing the percentage of a company’s earnings that come from selling its service or product once the business’s cost of sales is accounted for.

It is computed by taking a business’s gross profit and dividing it by net sales.

This percentage is useful for letting managers or business owners see the percentage of sales that remains once the cost of goods sold is considered.

It basically gives the percentage of profit the business is making from selling its service or product after it takes into account the cost of sales or production.

These costs of goods sold (COGS) are generally the cost of direct labor or raw materials.

So, to compute the gross profit percentage, it is necessary to divide the gross profit by the total sales, and then convert this number to percentage form.

## The Formula for Gross Profit Margin

The formula for gross profit margin is as follows:

Gross Profit / Total Sales x 100% = Gross Profit Percentage

This formula can also be expanded to:

(Total sales – Cost of Goods Sold) / Total sales x 100% = Gross Profit Percentage

Once a business has covered the COGS, the money that is left can be used to pay additional operating expenses, such as administrative and general expenses, selling and commission expenses, interest expenses, or marketing expenses, among others.

## How To Calculate Gross Profit Percentage

Here is how to use the gross profit percentage formula to calculate a business’s gross profit percentage.

In order to calculate this percentage, it will be necessary to have the figure for the business’s total sales.

This can be found on the business’s income statement.

After finding total sales, you’ll need to find the COGS, which can also be found on the business’s income statement.

Although, it can also be computed by finding the sum of any direct costs of manufacturing.

These costs will include direct labor, raw materials, and any other direct costs of manufacturing.

You can then compute the gross profit by subtracting the COGS from the business’s total sales.

Total sales – COGS = Gross Profit

Once you compute gross profit, take this number and divide it by sales. Then, you convert the number to a percentage, as shown in the formula below.

(Total sales – Cost of goods sold) / Total sales x 100% = Gross Profit Percentage

## Examples of Gross Profit Percentage

Next, we will present an example of computing gross profit percentage to show how it works.

### Example One

Suppose there is a company called Opal’s Custom Furniture.

The business manufactures high-end furniture for offices.

The manager of the business wants to calculate the business’s gross profit percentage.

The manager will first need to determine the business’s total sales revenue.

This can be found on the company’s most recent yearly income statement.

For Opal’s Custom Furniture, the total sales revenue was \$200,000.

Next, the manager will need to find the COGS. This can be located on the same income statement as the total sales revenue.

Although, the manager also has the option of calculating this figure themselves.

This can be done by adding up the cost of raw materials, the worker’s wages, and overhead.

The COGS for Opal’s Custom Furniture is \$90,000.

After this, the manager needs to compute the gross profit.

This is done by taking the total sales revenue and subtracting the cost of goods sold.

This results in a gross profit of \$110,000.

Sales Revenue – COGS = Gross Profit

Gross Profit = \$200,000 – \$90,000 = \$110,000

The next step is to divide the gross profit by revenue.

\$110,000 / \$200,000 = .55

This number is then multiplied by 100 to obtain the gross profit percentage.

(Gross Profit / Revenue) x 100% = Gross Profit Percentage

.55 x 100 = 55%

Opal’s Custom Furniture has a gross profit percentage of 55%.

The manager should compare this percentage to the gross profit percentage of previous years.

This will allow the manager to see if the percentage has increased or not.

If the gross profit percentage has increased, this is one indication that the financial health of the business is improving.

However, if the percentage has decreased, the manager might want to find out why and try to correct the problem.

### Example Two

For our next example, consider Johnsons Plumbing Equipment Ltd.

The company manufactures plumbing equipment and sells it to wholesalers.

The manager of Johnsons Plumbing Equipment Ltd. wants to know the company’s gross profit percentage.

To do this, the manager found the company’s total net sales for the last fiscal year on the income statement.

Johnsons Plumbing Equipment Ltd. had total net sales of \$1,000,000. It also had these expenses:

Labor: \$275,000

Raw Materials: \$160,000

#### Cost of Goods Sold

The cost of goods sold can be calculated using the following formula.

(Cost of goods sold only includes costs that can be directly attributed to production.)

Cost of Goods Sold = Labour Cost + Materials Cost + Factory Overhead

Cost of Goods Sold = \$275,000 + \$160,000 + \$75,000

Cost of Goods Sold = \$510,000

#### Gross Profit Percentage

Now, the total sales and COGS can be used to compute gross profit and then gross profit percentage.

Total sales – COGS = Gross profit

Gross profit = \$1,000,000 – \$510,00 = \$490,000

The gross profit percentage would be calculated as follows.

The gross profit would be divided by revenue.

\$490,000 / \$1,000,000 = .49

This number is then multiplied by 100 to obtain the gross profit percentage.

(Gross Profit / Revenue) x 100% = Gross Profit Percentage

.49 x 100 = 49%

## Advantages of Gross Profit Percentage

Gross profit percentage is very useful for investors because it allows them to see how profitable the primary activities of a business are without taking into account indirect costs.

This metric is also useful for comparing a company to other companies in the same sector.

Additionally, if a company is considering whether or not a particular service or product is viable, this metric can be a useful part of the analysis.

Once a company covers its cost of goods sold, any remaining money can be used to cover additional operating expenses.

herefore, a high gross profit percentage will give a company more money with which to meet its other obligations.

If a company consistently has a gross profit percentage that is higher than similar businesses in its industry, this is likely to mean its operations are more efficient than its competitors.

This means that it is probably a good investment. In contrast, a business with a consistently low gross profit percentage may have a hard time meeting its operating expenses.

## Conclusion

Investors, managers, and business owners that understand how to calculate and use gross profit percentages will find it useful for comparing the profitability of companies in the same industry.