Updated
Gross margin % = (revenue − cost of goods sold) ÷ revenue × 100
Gross margin measures how much of each revenue dollar is left after paying for the direct costs of delivering a product or service — typically materials and direct labor — before overhead, marketing, and administrative costs are considered. The formula is: Gross Margin % = (Revenue - Cost of Goods Sold) / Revenue x 100.
Examples use made-up numbers. Education only, not tax, legal or investment advice.
The setup
Illustrative example: a landscaping business bills a customer $1,120 for a job that cost $800 in crew labor and materials.
That same job priced using a 40% markup on cost produces this lower-looking margin percentage, which is why the two figures should never be used interchangeably in a quote sheet or financial summary.
The math
Gross profit is $320, so gross margin is $320 / $1,120 = 28.6%, rounded to the nearest tenth.
Owner question to ask: "Is my gross margin trending in the same direction over the last several months, and can I explain a swing of more than a few points?" A falling gross margin often signals cost creep (materials, subcontractor rates) before it shows up anywhere else in the books.
Unique caveat: what counts as "cost of goods sold" varies by industry and by how a bookkeeper classifies labor. A business that pushes supervisory wages into overhead instead of COGS will show an inflated gross margin compared to a competitor who classifies the same role as direct labor, even if the two businesses are otherwise identical. Comparing gross margin across businesses without confirming matching COGS definitions can be misleading, so any benchmark comparison should be treated as directional only, not precise.
This definition is educational and does not replace advice from a licensed accountant or tax professional familiar with your specific books. Owners should confirm treatment with their bookkeeper before using this figure in a loan application, valuation, or tax filing. Small differences in chart-of-accounts setup can change how this number is calculated, so consistency period over period matters more than precision in any single month.
Continue with the full explainer lesson.
Definition source
The definition above is based on SEC — Beginners’ Guide to Financial Statements, which describes revenue, cost of sales, gross profit, net income, equity and working capital. Percentages here are arithmetic ratios of those line items, not industry benchmarks.
Questions owners ask
Is gross margin the same as markup?
No. Margin divides gross profit by revenue or selling price; markup divides it by cost.
Does gross margin include overhead?
Production overhead may be included in cost of goods sold; selling and administrative costs may be separate. Use the classifications in your accounts.
Is gross profit cash available to spend?
No. Revenue can be uncollected, and overhead, debt payments and other obligations still affect cash.