Why it matters
Gross margin shows whether the product or service itself is profitable. A business can grow revenue and still lose money when the cost of delivering the work rises faster than the price.
Example
A client has $500,000 of revenue and $300,000 of cost of goods sold. Gross profit is $200,000 and gross margin is 40 percent. If the cost rises to $350,000 with the same revenue, the margin falls to 30 percent.
Related terms
Questions about Gross margin
What belongs in cost of goods sold?
The direct cost of the product or service sold, such as materials, freight, direct labor and payment processing tied to the sale. Overhead and sales costs usually belong below the gross margin line.
Is gross margin the same as gross profit?
Gross profit is a dollar amount, and gross margin is that amount divided by revenue. A 40 percent gross margin on $500,000 of revenue is $200,000 of gross profit.