How to Define Margins
Margin is one of several financial measurements a company uses in evaluating its financial performance. Margin tends to be a broad brush term, because there are a variety of different margins to be considered on the income statement, such as Gross Margin, Operating Margin and Profit Margin. Margin is sometimes used as a synonym for profit. Simply put, it shows what a company is earning after costs and expenses, and is a basic measurement as to a company’s profitability. Higher Margin is generally preferred. It provides the company with financial resources to pay for research, product development, and other costs associated with running and growing a business, as well as covering operating expenses.Different types of Margin can simply be calculated by using Revenue, Costs and Expenses.
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Instructions
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1
Measure Gross Margin. You will need to first calculate your Gross Profit, which requires you have your company's revenue (or sales) information and cost of sales or products and services.
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2
Calculate Gross Profit by taking total Gross or Sales Revenue, minus total Sales Costs. If you sell your widget for $10, and it costs you $4 to make or buy wholesale, your Gross Profit is $6.
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3
Divide your Gross Profit by your Gross or Sales Revenue to get your percentage Gross Margin. Using the example in Step 2, you would divide your Gross Profit of $6 by your Revenue of $10, for a 60% Gross Margin.
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4
Measure Operating Margin. First you need to calculate Operating Income. From you’re your Gross Profit, deduct the costs involved in running your business, which are known as Operating Expenses. These include such expenses as General & Administrative, Sales & Marketing, and Research & Development. Gross Profit minus Operating Expenses equals Operating Income.
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5
Divide your Operating Income by your Gross or Sales Revenue. If your Revenue is $10, it cost $4 to make the widget, and Operating Expenses are $3, your Operating Income will be $3. Divide $3 by $10, for a 30% Operating Margin.
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Measure Profit Margin. First you need to calculate your Net Earnings or Net Income. From Operating Income, subtract other expenses such as Interest Payment and Taxes.
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7
Divide your Net Income by your Gross or Sales Revenue. If your Revenue is $10, Costs are $4, Operating Expenses are $3, and other costs are $2, your Net Income is $1. Divide $1 by $10, for a 10% Profit Margin.
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Tips & Warnings
Take a look at the Sample Income Statement in Additional Resources below to get a better sense of how different Margin fit in context with a company’s financials.
