Explaining gross profit is my mission this  week. Gross profit is the amount of money you make after subtracting the cost of goods sold from your total revenue. This number tells you how much money is left over after you've covered the costs associated with making and selling your products or services.

Check out last weeks podcast and video looked at Operating profit.  This is the amount of money you earn after all expenses have been taken into account. It's what's left over after you've paid for everything your business needs, from labour and materials to rent and marketing.

Many businesses want to ensure they are making a profit, but don't know where to start. This FREE profit calculator shows you exactly what your gross profit is right now. With this information, you can make informed decisions about where your business should go next. Use this calculator to find out if you're making a profit and how much money you could be making!

Good to know

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This book is based on my 27 + years in business, helping thousands of businesses survive and prosper.  It is an easy, humorous but serious read about running a business, having a financially rewarding relationship with your numbers, Furthermore, my book will help with that battle between the ears, that all business owners experience.

Get in touch with us to help make your life easier and stress-free. Contact us if you need help figuring out and sorting your numbers, creating your future financial story plans, your tax, payroll and other accounting and business matters

Where profit is, loss is hidden nearby - ancient Japanese proverb. Your business journey map needs to have profit as a destination point. If your destination is purely based on sales alone, then you need to change your route or abandon your journey completely. It will end in tears, otherwise. When you set your numbers to after profit, one of the calibration marks is gross profit. In this podcast, I want to help you understand gross profits, what it is, how you calculate it, and have a look at markup and margin and also conclude with why gross profit is such a powerful number in your business toolkit.

You're listening to the I Hate Numbers podcast with Mahmood Reza. The I hate Numbers Podcast mission is to help your business survive and thrive by you better understanding and connecting with your numbers. Number love and care is what it's about. Tune in every week. Now, here's your host, Mahmood Reza.

Hi folks. Welcome to another weekly episode on I Hate Numbers. This is the podcast with a mission to help improve your financial awareness, help you win more battles than you lose with what goes on between your ears, help you and your business make profit, save tax and save time. What's not to like? My name is Mahmood and I am the founder director of the accounting firm I Hate Numbers and also the financial storytelling platform Numbers Know How. And over the last 27 plus years, I've helped thousands of businesses with the mission of improving awareness, improving their outlook, their mindsets, and helping, importantly, their businesses make more money and have the businesses so desire.

Let's crack on with a podcast. Now in the world of numbers, gross profit doesn't mean unpleasant and it doesn't mean disgusting, though obviously making a rubbish gross profit actually is. Gross profit is this idea of like water droplets. Those water droplets that gather, that collate, they go into a fish tank of profitability is there to serve a purpose. What that purpose is, we're going to find out as we go through the podcast. First of all, what is gross profit? Well, gross profit is essentially the difference between the value of what you sell, whether it's a physical product or a service, and the immediate associated, what we call direct costs or cost of sales if you want to be more posh of making those sales.

If, for example, you are an artist, and as an artist, you're creating works of art, you're creating canvases, you're creating pictures to sell on to a client, it's likely that those works of art, you've had to spend money on materials, on canvases in order to generate those works of art. The difference between those two will be your gross profits. Hang fire folks. I'm going to introduce some numbers later on in the podcast. If you come across the term of gross profit, be aware that alternative terms can exist. And gross margin might also be a term that you come across that effectively means the same thing.

Let's get back to the calculation and let's overlay some numbers. Now, if you're sitting there listening to here, sipping your cup of coffee, hanging a glass of wine or whatever your drink of choice is, fear not about the numbers. I'm going to use some numbers always geared best for over the radio, over a broadcast, in for your own situation. Check out the show notes. I've got a wonderful free online calculator that does a lot of the heavy lifting for you and gives you amazing permutations and ways to actually look at your current pricing, your current costing, and help you work out your gross margins and gross profits.

Imagine our artist is selling works of art for £40 a time. They sell five of those works of art and that's £200 worth of sales. Excellent news, we should think. However, that level of sales at £200 is not the profit. That's purely the sales or turnover or revenue. Again, take your pick which term you prefer. Now, in order to create that cell, in order to create the work of art, our artist's friend has had to spend money on canvases, has to spend money on materials in order to create that work. Let's assume, for argument's sake, it’s cost them £20 for each work of art created.

Five lots of 20 is £100. And that means the gross profit from those cells has been £100 in total. That's the £200 worth of sales less than £100, what we call gross costs or cost of sales. And that gives you the 100 pound gross profit. Have a reference to last week, because that's not the final profit. The other profit that's going to come after we take off, perhaps the rent of the studio, the payment for admin costs, etc. will leave us with what's called operation profit. Check out the show notes for a reference to last week's podcast.

There are other examples we could include. If you are a retailer, the difference between the cost of buying your stock and selling is called gross profit. If your business happens to be a food business, a restaurant, a cafe, then the gap between the cost of making a meal, buying those items and selling them on is your gross profit. If your business is a training business, then the difference between your fees that you charge, the room higher, the materials that you generate, the handouts, the booklets, is gross profit. For a manufacturing business, the product minus the cost of making those products is the gross profit.

We've looked at the idea of what gross profit is and we've looked at how we calculate it. What I'd like to do now is to look at two terms that you are likely to come across in your business life called markup and margin. The best way to look at this is to take an illustration and let's go back to our artist example. If we look to each individual work of art, let's assume the selling price of each work of art is £40. Now, to get to that £40, our artist has looked at the cost of the materials, look to the cost of the canvases and it's come to £20.

He decides he's going to add, he's going to double it. He's going to add a mark up, what's called 100% onto that cost. Therefore the cost of 20 at £20 to represent his initial gross profit, his profit element. And that gives a price to the customer of £40. If he then sells five of those works of art, that's a total of £100 worth of cost. That's a total of £200 worth of sales. That's five lots of 40 for the selling price, and five lots of 20 is the cost. Now, markup, we said was 100%. Now, if we take that same level of profitability, so that's for each item, that's a 20 pound gross profit. The margin is where we take that profit element and we related and connected to the price that we sell the product for.

So we have a 20 pound gross profit, we have a 40 pound selling price, and using a bit of mass, is 20 divided by 40. If you tap it into your calculator, press the percentage key. If you're not, times it by 100 and that gives you a 50% margin. Again, it will work if you're doing it in total terms, £100 gross profit for selling five, £200 worth of sales for selling 5, 100 divided by 200 is a 50% gross margin. Now, the question quite naturally comes, why do we have both? Well, markup is a simple way to arrive at a selling price.

We would take the cost, we add a profit element and we arrive at the selling price. Footnote folks, if you are registered for VAT, registered for sales taxes, don't forget to add on the required amount of VAT in sales taxes. That's what you have to charge to your customer and that's what you collect on behalf of the government. Again, check out the show notes for a link to a podcast on VAT. Margin is a very powerful technique to use because if we know what level of turnover we're generating, we know what our gross margin percent is, we can work out, whatever the level of turnover is, the approximate amount of gross profit we should be creating.

And remember that gross profit is vital to our business. That provides that pool of resources, that pool of money from which we service and pay our running costs - our overheads. Markup is often used in industries where pricing might be around at that stage. It's a nice simple mechanism to use. Margin, in my opinion, in my experience, is a much more powerful thing to use for when it comes to making decisions, when it comes to forecasting, when it comes to planning, when it comes to making decisions about which products we pursue and which products we drop. A margin tends to be very widely used in the field of retailing in the world of industry, and it's much more widely used than a markup figure would be.

Having said that, markup by no way is dead, no way is buried. So it's out there. Be aware of it. To bear in mind, by the way folks, it's impossible for a margin to exceed 100%. It's mathematically impossible. Markups can be more than 100%, and margins would always be quoted lower than markups. And by margin, in this context, we're talking about the percentage. Lots of industries have different levels of margins. So a retailing business, a food business, a bar, hospitality, would tend to have a very high margin because it has high operating costs as well. Engineering industry, again, they might have high operating costs, but traditionally their margins will be much smaller.

So when you look at your margins and think is it good or bad? Have a good reference point to compare it against. And we talked about the power of gross profit. And gross profit for me is a really powerful metric. It's your ATM, it's out of the pool of resources that you generate for which you pay all your operating costs. And it's important that we maintain a healthy margin. Now, remember, folks, if you're a bit wary of the calculations, a bit wary of the numbers, then please check out the show notes for the wonderful free online calculator which will give you the answer in a matter of seconds.

And by seconds, we're talking micro seconds. Now, the whole purpose of margin earned markup, remember, the calculations are done before we consider sales taxes. If you are registered for VAT, registered for sales tax, depending on the country that you live in, remember, the price to the customer, typically, if it's a retailing space, will be including VAT. When you work out your profit margins, make sure VAT is eliminated from the calculation. So folks, let's wrap up what we have and summarise. We've talked about the idea of what gross profit actually is. It's not a disgusting figure, doesn't mean unpleasant, but obviously making a rubbish gross profit actually is.

It's important to keep an eye on gross profit. That's largely within our control, largely something we can influence. We've looked at the methodology, how we calculate that figure, we've looked to the difference between markup and margin, and we've also touched upon where gross profit serves its own is a very powerful tool in our business toolkit. I hope you enjoyed this episode and I'd love it if you could subscribe, or I'd love it if you left some feedback. Share it with your friends, share it with your colleagues, share it with those who you feel would benefit from listening to this podcast. Until next week, folks, ciao.

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