What is the difference between profit margin , gross margin , and revenue ?
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Lol this is for explanations as-if it were for a fifth grader, not ones that are actually for a 5th grader doing homework.
You make a widget that costs $1.00 to make. The cost is the raw materials and the wages you pay to Joe to make them.
You need to sell your widget for at least $1.00 to break even.
Every penny you sell the widget above the $1.00 cost to make a widget is your gross margin.
But you need to pay Harry in Accounting and Betty in Sales 35 cents each to keep the business going.
So you sell each widget for $1.70
Your gross margin is 70 cents but your profit is $0 ($1.70-$1.00-$0.70 = $0.00)
But being the greedy capitalist pig you are you as the owner CEO need to make a living too and pay for your three houses. So you add to the sales price $1,000 per widget. This is your profit.
Revenue $1,001.70
Cost to produce $1.00
Gross Margin $1,000.70
Wages to Betty and Harry $0.70
Profit Margin to you $1,000
This isn’t the best example though because the profit to you as the owner CEO is made up and not reflective of our present economic system.
One isn’t as clean as the other two ?
Profits is revenue – expenses.
So let’s say you have a business that makes bookshelves. You have to buy lumber, saws, drills, and screws. You put in the labor and turn that stuff into a bookshelf.
All that stuff cost money. Let’s say you paid $30 in all those materials and additionally $600 for the machines. But you sell each bookshelf for $60.
So you make and sell 20 bookshelves. So some quick math tells us our revenue is 20 x $60 or $1,200.
However we have to consider our expenses. $30 x 20 = $600
And then we also have to consider the one time cost of the equipment.
$600+$600 = $1,200.
So revenue is $1,200 but because costs were $1,200 our profit is 0.
The explanation for revenue makes it sound the same as cash, which it is not. And if you’re calculating margins you have to take into consideration the element of time and performance obligations. For example if you pay Dropbox $240 for an annual license the revenue might only be $20 per month (the excess cash is recorded as a liability on the balance sheet until the performance obligation is complete). in this case evenly over a 12 month license period.
So on day one of the $240 sale, revenue may only be $0.66, not $240. This can significantly impact the margins as defined above.
Say you’re selling books
Revenue is the total money you made from books this month
Gross Margin is Revenue for the month, minus the price it cost for you to get the books (think the mark-up on books).
Profit Margin is what’s left of Revenue when there’s nothing left to pay off; what you keep for the business after you have paid all of your wages, bills, and fees.
There are a lot of very good answers but everyone is missing a key detail:
Margin is a percentage, not a dollar amount. Revenue minus product costs does NOT give you your gross margin. It gives you your gross profit. To find your gross margin you must divide gross profit into revenue and multiply by 100 to result a percentage that is your gross margin.
Same thing with profit margin. Calculate your net profit like other folks have said by taking revenue minus all costs to run the business, then divide that result into revenue.
– Revenue is the money you take in.
– Gross Profit is what’s left after expenses (payroll, rent, marketing, etc)
– Gross Margin is the percentage of revenue that is Gross Profit
– Net Profit is what’s left of your gross profit after the various governments shake you down for their cut of the action (taxes)
– Dividends are the share of net profits paid out to the owners (shareholders) of the business. Some companies like Amazon and Apple do not pay any dividends and instead keep the money in the bank to run the business when times are tough and revenues are down.
If you sell 2 cookies for $5 then your total revenue is $5 ($2.50 per cookie).
If materials (dough, water and chocolate chips) costed you $2 ($1 per cookie) then your gross margin is revenue – costs of goods sold = $5 – $2 = $3.
Then let’s say you rent your cookie stand for $1 a day. So after your gross margin of $3 you have to deduct $1 for yoour fixed expense of renting the stand and finally you have a profit or net margin of $2 (assuming no taxes in this example).
Gross margin is important because if you sell more cookies you’re still earning a gross margin $1.5 per cookie sold, and since your fixed expenses won’t change if you sell 1 or 10 cookies (you still just lay $1 for renting the stand per day) it will go straight to your profit margin.
The terms are easy to Google. So I’m going to tell you what they mean to me in context of the business.
Short version,
Revenue is how big you are or how much you sell
Gross margin is how much a product costs to make.
Profit margin or net income is how much of a return I can expect as an owner or investor.
Longer version
Revenue is an indication of how big you are. It drives everything else. For example, do you sell $100 of a product or $100,000.
Other terms have a dictionary definition but get cloudy in everyday conversation. Gross profit or gross margin tells me how much each product costs to make. This is direct cost. Example, I can’t make iron widgets without iron. So my revenue minus my iron cost is my Gross profit/ margin.
Gross margin can be compared to other similar companies. If your Gross Margin is lower than everyone else, you have a challenge to get cost down so you can grow and make more money.
Your Gross margin is then used to cover other costs like the cost of your office or equipment, wages, utilities, etc.
After all expenses are paid your net income is what is left to pay shareholders, extra for you as owner, or keep in the company to buy more equipment.
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