Business Finance

What Is Gross Profit?

Dec 10, 2020 • 3 min read
Pen on top of income statement pointed at Gross Profit
Table of Contents

      As you develop financial documents for your business, you may need to refresh yourself on a few common accounting terms. These metrics are used by bookkeepers and business owners to learn about the financial state of the business. This guide will answer a few important questions about one of the most important metrics: gross profit

      What Is Gross Profit?

      Gross profit refers to the amount of money that a business makes after it factors in the cost of production. Gross profit is often reported alongside gross margin, though it is represented as a numerical amount. (Gross margin is represented as a percentage.) 

      What Is the Formula for Gross Profit?

      The formula for gross profit is: 

      Net sales – Cost of Goods Sold = Gross Profit 

      Net sales refer to the amount of revenue made after subtracting discounts, refunds, and other allowances. 

      The cost of goods sold (COGS) refers to any costs directly involved in the creation of the product. 

      Where Can You Find the Gross Profit?

      You will typically see the gross profit reported on a company’s income statement. Net sales are usually reported at the top of the statement, and gross profit (and gross margin) are reported toward the bottom after subtracting the COGS. 

      How Can You Read Gross Profit?

      There are 2 ways to consider the gross profit collected in your business: on an individual level (by item or by average ticket) or across the entire business. When you look at gross profit as a whole, it is referred to as total gross profit. 

      For example, if a bakery sells cupcakes for $5 each at a $2 COGS, then the gross profit per cupcake is $3. If the bakery sells 1,000 cupcakes each month, then its total gross profit is $3,000. 

      Evaluating gross profit on an individual level can help business owners set pricing and determine product profitability. On a macro level, it can help an entrepreneur make sure they make enough profit to cover other overhead costs like rent, utilities, and marketing services. 

      What Can You Learn From Your Gross Profit?

      Gross profit can give you an idea of how efficiently you produce products or services for your business. This metric, along with gross margin, tells you how much it costs to make a product and what you stand to profit from it. 

      Gross profit can also help you understand how much leeway you have with increased production costs or product discounts. For example, if your COGS increases because you work with a new vendor, how much gross profit do you stand to lose? Can you afford to offer a 10%-off coupon, or will that take away too much of your gross profit?

      This metric can help you make strategic business decisions for your brand.   

      Gross profit is just one of many accounting terms you will see on your balance sheet and income statements. Use our resource center to learn more, and check out the free tools by Lendio to help new business owners. When you start out with good financial habits, you can grow your business sustainably.

      About the author
      Derek Miller

      Derek Miller is the CMO of Smack Apparel, the content guru at Great.com, the co-founder of Lofty Llama, and a marketing consultant for small businesses. He specializes in entrepreneurship, small business, and digital marketing, and his work has been featured in sites like Entrepreneur, GoDaddy, Score.org, and StartupCamp.

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