Gross margin
The margin most systems report, and the one that hides every variable cost of actually selling something.
Also called Gross profit margin, GM%.
What it is
Gross margin is revenue less the cost of the goods sold, divided by revenue. It exists to answer a narrow question well: is there room between what this costs to buy and what it sells for. It is a useful number and it is not a profitability test, because everything that happens between buying the goods and keeping the money is outside it.
(revenue − cost of goods sold) ÷ revenue
- revenue
- Net of discounts and returns, excluding tax and shipping charged to the customer
- cost of goods sold
- What the goods cost landed — supplier invoice plus inbound freight and duty — for the units actually sold, not the units bought
The part the formula leaves out
The exclusions are not incidental, they are the costs that scale with selling. Marketplace commission, payment processing, outbound shipping, pick-pack, and the full cost of a return all sit below the gross margin line, and every one of them is charged per unit sold. So gross margin rises with volume in a way that profit does not, and a catalogue can grow revenue, hold its gross margin exactly flat, and lose more money each month. The worked project below is precisely this: a 54% catalogue gross margin with 214 products that lose money on every unit ordered.
Returns are the sharpest version of it. A returned unit reverses the sale but not the cost — outbound shipping is spent, the marketplace fee is often only partly refunded, the item comes back needing inspection, and a share of it cannot go out again at full price. Gross margin either ignores this or, at best, nets the revenue and leaves the costs where they fell. At a 26% return rate the difference is not a rounding adjustment: the linen shirt in the worked project reports 59% and contributes −$2.15 a unit.
Then the two definitional forks that make the same catalogue report different numbers. The first is what lands in cost of goods: the supplier invoice alone, or the invoice plus inbound freight and duty. Freight is commonly 6–12% of landed cost and is commonly missing, because it arrives as a separate invoice covering a container of mixed SKUs and has to be allocated before it can be attributed. The second is the denominator: list price or net revenue after discount. A catalogue running an average 12% discount reports a materially higher gross margin on list than on what customers paid, and both figures are defensible right up to the moment they are compared to each other.
How it is usually computed wrongly
01
Computing margin on list price rather than on what was actually received
Discounts, promotions and price-matching come off the revenue and not off the cost, so a margin computed on list is highest exactly when discounting is heaviest. It reports the margin the pricing sheet intended rather than the one the business got.
Use net revenue after discounts, per line, from the order lines rather than the product catalogue. If the two figures are both wanted, show them side by side and label which is which.
02
Taking cost of goods from the product catalogue's standard cost
Standard cost is usually the last purchase price, entered once, excluding inbound freight and duty and never revised. It is stale for anything bought more than once and understates cost for everything imported, which inflates margin most on the products where the buying decision matters most.
Compute landed cost from the purchase orders — invoice plus freight and duty allocated across the container — and match the units sold to what those units actually cost.
03
Deciding what to promote, keep or reorder on gross margin
The decision needs the costs that gross margin excludes. Ranking a catalogue by gross margin promotes the products with the highest fees, the heaviest shipping and the worst return rates, because none of those appear in the ranking.
Rank on contribution per unit after fees, shipping, pick-pack and the measured cost of returns. Keep gross margin for the buying conversation, where the question really is what the goods cost against what they sell for.
04
Quoting one catalogue-wide figure
A blended margin is an average over a distribution that is usually bimodal, and the average conceals both ends. A catalogue at 54% overall can hold a third of its stock value in products that have not sold at all, whose margin is theoretical because nothing was sold at it.
Report the distribution, or at least the margin of the products that actually moved. Weighting by units sold rather than by SKU is the one-line version and it is nearly always the more honest figure.
What your file needs
- Order lines with the quantity and what was actually paid per line, after discount
- A cost per unit for the same SKUs — ideally purchase orders, so freight and duty can be allocated
- A returns export, if returns are material, so the revenue can be reversed on the right lines
Anything missing is reported as unavailable rather than substituted with something weaker computed on worse evidence.
Compute it on your own file
No account needed to start. You only pay when you like what you see.