Profit margins: what the business keeps from each sale
A margin is what is left of each 100 of revenue after each layer of cost. Gross margin after the cost of what was sold, operating margin after selling and admin costs, net margin after interest and tax: read side by side, they show where profit leaks.
Formulas and worked example
Figures in units of 100 million KRW: revenue 30, cost of sales 22, SG&A 4.8, operating profit 3.2, profit before tax 3, net profit 2.4 (values calculated by the Caveat engine).
| Measure | Calculation | Prior year | Current year |
|---|---|---|---|
| Gross margin | (revenue − cost of sales) ÷ revenue | 24.1% | 26.7% |
| SG&A ratio | selling, general and admin expenses ÷ revenue | 16.3% | 16% |
| Operating margin | operating profit ÷ revenue | 7.8% | 10.7% |
| Net margin | net profit ÷ revenue | 5.9% | 8% |
| Effective tax rate | (profit before tax − net profit) ÷ profit before tax | 20% | 20% |
Gross margin minus the SG&A ratio is roughly the operating margin (26.7% − 16% ≈ 10.7%). Here gross margin rose 2.6 points and the SG&A ratio fell 0.3 points, so operating margin improved from both sides.
Finding the leak, in order
- Gross margin fell: look at cost — material prices, price cuts to customers, discounting, product mix.
- Gross margin held but operating margin fell: look at overheads — what pushed up the SG&A ratio (staff, advertising, fees).
- Operating margin held but net margin fell: look outside operations — interest, currency or disposal losses, tax.
Both sides: a lower margin is not always bad; cutting prices or spending on marketing to grow should be judged together with sales growth. A higher margin can come from sales falling so far that fewer costs were incurred. Read it with sales and profit growth.
Industry differences
Gross margins vary widely: buy-and-sell businesses such as wholesale run low, software with almost no cost of sales runs high. Comparison with the same industry and your own trend says more than the level. Companies also draw the line between cost of sales and SG&A differently, so operating margin is the fairer comparison between companies.
Limitations
- The split between cost of sales and SG&A depends on accounting choices, so gross margin alone is a weak basis for comparing companies.
- The effective tax rate is not calculated when profit before tax is zero or negative, and loss carry-forwards or credits can move it far from the statutory rate.
- For reference only; it does not replace credit, investment or tax decisions.
See it in your own statements
Upload a balance sheet and income statement and Caveat calculates these for your company.
FAQ
- What operating margin is good?
- It varies widely by industry. Compare with companies in the same industry and with your own trend over several years.
- How do gross margin and operating margin differ?
- Gross margin is what remains after cost of sales; operating margin is what remains after selling and admin costs as well. The difference is the SG&A ratio.
- Sales grew but margins fell. Why?
- Discounting, rising costs or overheads growing faster than sales are common causes. Check first whether gross margin or the SG&A ratio moved.
- Why does the effective tax rate differ from the statutory rate?
- Tax credits, loss carry-forwards, non-taxable income and non-deductible expenses. If the gap is large, check whether the cause is one-off.
Country notes: Denmark
- A Danish company's income statement has no revenue. How can I read margins?
- Under § 32 of the Danish Financial Statements Act (Årsregnskabsloven), revenue and cost items may be combined into a single "gross profit" (bruttofortjeneste) line. Gross and operating margins then cannot be calculated, and using gross profit as revenue badly inflates margins. In Caveat's figures, 7.4% of Danish unlisted companies report revenue and 82% report gross profit.
Country notes: United Kingdom
- I can't find the profit and loss account in a UK small company's accounts.
- UK small companies and micro-entities currently need not deliver the profit and loss account or directors' report to Companies House (the balance sheet and notes are filed). From 1 April 2028 they must deliver the profit and loss account but may opt out of publishing it on the public register.