Gross margin

Gross margin

Gross margin is revenue minus the cost of goods sold, expressed as a share of revenue: (price minus cost) divided by price. A product costing 60 and selling for 100 carries a 40% gross margin.

Measure it on the right revenue

Two things routinely inflate the number.

Tax. Where prices display tax inclusive, part of the price on your website is not your money. Calculating margin against a tax-inclusive price flatters you by the tax rate. Strip the contained tax out first, line by line, at each line's own rate.

Delivery. A delivery fee is a reimbursement for a drive, not revenue from a cake. Leave it out of the calculation entirely, and a fee that fails to cover the trip shows up as a loss on the trip instead of a better-looking margin on the product.

What a discount actually costs

The share of your profit a discount consumes is the discount percentage divided by the margin percentage. At a 40% margin, a 10% discount gives away a quarter of the profit on that sale. At a 20% margin, the same 10% gives away half.

Gross margin is not net. It carries no rent, no insurance and no unbilled hours, so a healthy gross margin and an unprofitable year are entirely compatible.

The related trap is calling a multiple of cost a margin. See markup vs margin.