Gross Profit:

Gross profit ratio expresses relationship between gross profit and net sales. It is obtained by dividing gross profit by net sales and expressing this relationship as a percentage. Gross profit is obtained by deducting cost of goods sold from net sales. Net sales are basically determined by deducting sales returns from sales. Gross profit ratio evaluates the effectiveness of business. It indicates the efficiency of firm in terms of its production and how much it has gained profit. Gross profit reflects the profit firm has made on cost of goods sold. If firm has higher gross profit margin then it is a sign of success because all operating expenses, interest charges and dividends would have to be taken off from GP. If company increase selling price of goods sold and decrease cost of goods sold then this ratio increases. However If company decrease selling price of goods sold and increase cost of goods sold then this ratio decreases. This ratio is also affected due to critical policies of firm. If management is not capable of improving sales volume then company will suffer from loss. Basically company analyzes GP margin while considering its policies, rises and falls in purchases of products. The GP percentage indicates financial performance of firm. If this percentage is higher then it means that firm has sufficient financial resources to pay for costs necessary to run and grow business. In this way business can be improved. On the other hand if firm has lower gross profit then it means that company has limited financial resources.

Net Profit Margin Definition

The net profit margin, also known as net margin, indicates how much net income a company makes with total sales achieved. A higher net profit margin means that a company is more efficient at converting sales into actual profit. Net profit margin analysis is not the same as gross profit margin. Under gross profit, fixed costs are excluded from calculation. With net profit margin ratio all costs are included to find the final benefit of the income of a business. Similar terms used to describe net profit margins include net margin, net profit, net profit ratio, net profit margin percentage, and more. To calculate net profit margin and provide net profit margin ratio analysis requires skills ranging from those of a small business owner to an experienced CFO. This depends on the size and complexity of the company.

Net Profit Margin Calculation

Example: a company has $200,000 in sales and $50,000 in monthly net income. Net profit margin = $50,000 / $200,000 = 25%

This means that a company has $0.25 of net income for every dollar of sales. Steve has $200,000 worth of sales yet his net income is only $50,000. By decreasing costs he can increase net income. He evaluates his decision and decides to implement the online system he was thinking about.

Applications
Net margin measures how successful a company has been at the business of marking a profit on each dollar sales. It is one of the most essential financial ratios. Net margin includes all the factors that influence profitability whether under management control or not. The higher the ratio, the more effective a company is at cost control. Compared with industry average, it tells investors how well the management and operations of a company are performing against its competitors. Compared with different industries, it tells investors which industries are relatively more profitable than others. Net profit margin analysis is also used among many common methods for business valuation.

Operating Profit Margin Ratio Definition

The operating profit margin ratio indicates how much profit a company makes after paying for variable costs of production such as wages, raw materials, etc. It is expressed as a percentage of sales and shows the efficiency of a company controlling the costs and expenses associated with business operations. Phrased more simply, it is the return achieved from standard operations and does not include unique or one time transactions. Terms used to describe operating profit margin ratios this include operating margin, operating income margin, operating profit margin or return on sales (ROS).

Operating Profit Margin Formula

The operating profit margin ratio formula is calculated simply using: Operating profit margin = Operating income Total revenue Or = EBIT Total revenue

Operating Profit Margin Calculation

Operating profit margin calculations are easily performed, including the example below. Operating Income = gross profit operating expenses Example: a company has $1,000,000 in sales; $500,000 in cost of goods sold; and $225,000 in operating costs. Operating profit margin = (1,000,000 - 500,000 - 225,000)= $275,000 / 1,000,000 = 27.5%

This means that a company makes $0.275 before interest and taxes for every dollar of sales. Operating income is often called earnings before income and taxes or EBIT. EBIT is the income that is left, on the income statement, after all operating costs and overhead, such as selling costs and administration expenses, along with cost of goods sold, are subtracted out. Operating Profit Margin = EBIT/Sales Revenue = ________%
What Does the Operating Profit Margin Tell the Business Owner?

The operating profit margin gives the business owner a lot of important information about the firm's profitability, particularly with regard to cost control. It shows how much cash is thrown off after most of the expenses are met. A high operating profit margin means that the company has good cost control and/or that sales are increasing faster than costs, which is the optimal situation for the company. Operating profit will be a lot lower than the gross profit since selling, administrative, and other expenses are included along with cost of goods sold. As the company grows and sales revenue grows, overhead, or fixed costs, should become a smaller and smaller percentage of total costs and the operating profit margin should increase. A high operating profit margin usually means that the business firm has a low-cost operating model.