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Profitability is one of the key metrics that define the success of a company. As your business grows, a firm grasp of your profit margins—and a reliable profit margin calculator—can provide you with the valuable sales data you need to make informed financial decisions.
Our guide breaks down profit margin types, formulas, and six practical ways to improve yours. Use our free gross profit margin calculator above to help you quickly crunch your numbers.
More in this guide:
How to calculate profit margin
When exploring how to calculate profit margin, it’s important to understand that there are three main types: gross, operating, and net profit. Each provides different insights into a company’s financial performance.
Gross profit margin calculation
Gross profit margin is the profit percentage after deducting the cost of goods sold (COGS) from net sales. Our calculator above determines this type of profit margin.
| Gross profit margin = [(Net sales – COGS) ÷ Net sales] × 100 |
Example:
Let’s say your net sales are $10,000 and your COGS is $6,000.
Subtract COGS from net sales:$10,000 – $6,000 = $4,000
Divide that number by net sales:$4,000 ÷ $10,000 = 0.4
Multiply by 100 to get a percentage:0.4 × 100 = 40
Your gross profit margin is 40 per cent.
Operating profit margin formula
Operating profit margin shows how profitable your core operations are by comparing operating income to revenue. Calculate it by subtracting operating expenses from gross income, then divide by revenue.
| Operating profit margin = (Operating income ÷ Net sales) × 100 |
Example:
Say your operating income is $3,000 and your net sales are $10,000.
Divide operating income by net sales:$3,000 ÷ $10,000 = 0.3
Multiply by 100 to get a percentage:0.3 × 100 = 30
Your operating profit margin is 30 per cent.
Net profit margin calculation
The net profit margin formula measures how much net income you generate from your total revenue. To calculate it, subtract COGS, operating expenses, interest, and taxes from revenue. Then use that number as your net profit in the formula.
| Net profit margin = (Net income ÷ Revenue) × 100 |
Example:
Suppose your total revenue is $10,000, and after subtracting all expenses (COGS, operating costs, interest, and taxes), your net income is $2,000.
Divide net income by total revenue:$2,000 ÷ $10,000 = 0.2
Multiply by 100 to get a percentage:0.2 × 100 = 20
Your net profit margin is 20 per cent.
Understanding profit margin terms
Profit margin is the percentage of income remaining after costs are deducted from sales revenue.
Businesses with high profit margins are better at converting their revenue into profit. But to fully understand profit margin, you need to be familiar with a few key financial terms, like:
Cost: The amount of money spent to create your products or services, often called Cost of Goods Sold (COGS).
Margin: The difference between the selling price of your products or services and production costs. This differs from markup, which is the percentage added to the cost to set the selling price.
Revenue: The total amount of income your business generates. It’s also important to differentiate between
net sales vs. gross sales, as net sales subtract returns and discounts to give a more accurate picture.
Profit: The difference between the amount earned and spent to produce your goods.
These terms all intertwine to help you get a complete picture of your financial stability.
6 ways to increase your profit margin
Follow our tips and best practices below to increase your profit margin and boost your bottom line.
1. Reduce operating costs
A great way to quickly increase profit margin is to reduce operating costs and expenses. To do this effectively, conduct an audit to identify money-saving opportunities like:
Optimising labour budgets or staffing costs
Spotting opportunities to incorporate AI or use automation
Eliminating expensive or unused office space
Negotiating vendor discounts
However, before slashing expenses, you need to create an effective sales plan to ensure your budget cuts don’t harm your business in the long term.
2. Embrace AI to streamline operations
Artificial Intelligence (AI) helps teams streamline support, reduce costs, and boost customer experiences, all of which support stronger profit margins.
Common use cases include:
AI also helps uncover hidden inefficiencies, enabling smarter resource use that protects profitability.
3. Build customer loyalty
Retaining customers and building customer loyalty are reliable ways to increase profit margins. You can create a dedicated customer base by providing excellent service, personalising customer interactions, and offering perks like loyalty programmes.
To see this in action, look no further than Grove. The online cleaning and wellness brand used Zendesk AI to build loyalty and help support agents personalise every interaction, leading to a 95 per cent customer satisfaction (CSAT) score.
4. Increase average order value (AOV)
Another effective way to increase profit margin is to increase your average order value (AOV). Simply put, you want your customer to spend more per transaction.
Here are some ways to increase your AOV:
Incentivise order minimums with discounts or free shipping.
Offer product bundles or packages.
Add recommendations or “customers also bought” prompts to online baskets.
Empower AI agents to give customers personalised product recommendations and suggest upsell and cross-sell opportunities.
Run targeted
sales promotions to encourage larger purchases and attract new customers.
You can also increase AOV by finding higher-quality customers. Tools like sales CRMs can optimise your sales funnel and help you connect with consumers willing to pay more.
5. Prioritise high-margin products
To increase revenue and profit margins, identify which products or services sell the best and have the most potential to deliver the most sales volume and profit for your business. Prioritise these high-margin products to maximise your revenue.
For services, consider your high-margin versus low-margin customers and focus more on the former. Dedicate your resources to these high-value clients to increase profitability.
6. Adjust your pricing
The most obvious solution may be the most effective. Some small businesses avoid raising prices, fearing that customers will jump ship. However, if you provide a quality product with great customer service, an increase in your pricing will rarely deter customers from making a purchase.
Another option is to work backwards and start with your break-even point. Once you know how much you need to make on each product to stay afloat, you can adjust your pricing to achieve your desired profit margin.
Frequently asked questions
Sales margin and gross profit margin are interchangeable terms for the same calculation: the percentage of revenue left after subtracting the cost of goods sold (COGS).
Both measure how much profit your business makes from sales before other expenses.
Example: If a product costs $80 and sells for $100:
Generally speaking, a good profit margin is 10 percent, but can vary across industries.
Though an unwritten rule, it’s understood by businesses that profit margin ranges from five percent (bad) to 20 percent (good). Using this rule, you can quickly assess how you’re doing at a glance.
Profit margin is important to know because it can directly affect your business's financial health. A low profit margin means you need to generate a higher sales volume to cover expenses and remain profitable, making it harder to sustain long-term growth.
To calculate a 20% margin, divide your cost by (1 – 0.20) or 0.8.
For example, if an item costs $100, the selling price for a 20% margin would be $100 ÷ 0.8 = $125.
Customer story
Boost your profit margin with Zendesk
A healthy profit margin can lead to a healthy business, but only if you take the right steps. You can’t just rest when you hit your desired margin. You must also focus on consistently building customer loyalty, managing expenses, and investing in new technologies. With Zendesk, you can achieve all of that and more with our solutions like AI-powered QA and Zendesk AI agents.
Discover how Zendesk customer service software can help you boost your profits and connect with your customers.
