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The difference between gross and net profit margin – which one should you follow?
- Aug 17
- 4 min read
Updated: Aug 27
Introduction
When you look at the numbers in your financial reports, you may notice two important indicators that come up often: Gross profit margin Net profit margin. Although both are used to measure profitability, there is a fundamental difference between them.
A question often asked by project owners and entrepreneurs: “Which one is the most important? And which one should I follow up to find out if my project is really successful?”
In this post, we will explain in a simple and clear way the difference between the two margins, how each ratio is calculated, what is its importance, and when to focus on each one.
First: What is the gross profit margin?
🔹Definition:
Gross profit margin is the ratio that represents your remaining revenue after deducting Only the cost of goods or services sold. That is, it reflects how efficiently your project produces or delivers what you sell.
🔹 His equation:
Gross profit margin = (Revenue – Cost of Goods Sold) ÷ Revenue x 100%
🔹 Practical example:
Suppose you have a coffee shop:
Monthly revenue = 50,000 riyals
The cost of purchasing coffee and raw materials = 20,000 riyals
the account:
(50,000 - 20,000) ÷ 50,000 x 100 = 60%
That is, the gross profit margin is 60%.
🔹 What does this number mean?
This means that for every 100 riyals that enter the store, 60 riyals remain after deducting direct costs (the cost of materials only). This ratio shows the strength of your pricing and the quality of your direct costs.
Second: What is the net profit margin?
🔹Definition:
Net profit margin is a ratio that shows how much profit you have left over after a discount All costs, including:
Cost of goods
Rent
Salaries
Electricity and water
Advertising campaigns
Taxes
Any other expenses
🔹 His equation:
Net profit margin = net profit ÷ revenue x 100%
🔹 Practical example:
From the previous example, after deducting:
Rent: 8,000 riyals
Salaries: 10,000 riyals
Marketing, invoices, etc.: 7,000 riyals
Net profit = 50,000 - 20,000 - 8,000 - 10,000 - 7,000 = 5,000 riyals
the account:
5,000 ÷ 50,000 x 100 = 10%
That is, the net profit margin is %10.
🔹 What does this number mean?
This means that for every 100 riyals that enter the store, 10 riyals remain as actual profit after covering all costs. This number is what you are left with in the end.
Third: The fundamental difference between the two margins
Comparison
Gross profit margin
Net profit margin
What it includes
Only the direct cost of goods
All costs, including overhead
It is used in evaluation
Production and pricing efficiency
The health of the business as a whole
It is clear
How well you control the material
Actual profitability after all
It can be improved via
Buy cheaper or better pricing
Reducing overhead expenses and increasing sales
Fourth: Which should you follow as a project founder?
✅ Follow Gross profit margin If you:
At the beginning of the project, you want to make sure that your pricing is appropriate.
You work in commodity trading and need to understand direct costs.
You want to analyze the performance of a specific product only.
✅ Follow Net profit margin If you:
You want to know the final profit accurately.
You are thinking about expanding, and want to understand your ability to cover larger expenses.
You compare your performance over months or years.
You talk to an investor or financial partner, and they're probably more interested in this number.
💡 Best: Follow them together To make balanced decisions.
Fifth: How do you use these indicators to improve your project?
📊 If your gross profit margin is low:
Check raw material prices.
Negotiate with suppliers.
Reduce waste of materials.
Raise the price if you can without affecting demand.
📉 If your net profit margin is low:
Review operating expenses: Is the rent high? Is marketing spending random?
Analyze employees' job performance.
Try automating some tasks to reduce payroll.
Reduce unnecessary subscriptions to software or tools.
Sixth: Common averages in the market (to compare yourself)
Activity
Gross profit margin
Net profit margin
Cafes
60-70%
10-20%
Restaurants
55-65%
8-15%
Retail stores
25-40%
5-10%
Salons
60-75%
15-25%
Sports clubs (gym)
50-65%
10-20%
Are you above or below this rate? If you are lower, you may need to adjust.
Seventh: Common errors when analyzing margin
Confusing revenues and profits Revenue = everything sold, profit = what remains after costs are deducted.
Ignoring some costs such as marketing or asset depreciation.
Relying only on one ratio and not seeing the full picture.
Random comparison with completely different projects. Only compare yourself with projects in approximately the same field and size.
Eighth: Useful tools for calculating margin easily
Excel or Google Sheets-
-Accounting programs such as: Zoho Books, QuickBooks, or Notepad.
-A specialized accountant helps you analyze the numbers monthly.
Conclusion
Gross and net profit margin are the compass that guides you through the world of numbers in your project.
📌 Gross profit margin It tells you: Is your method of purchasing and pricing good?📌 Net profit margin It tells you: Does your project generate a real profit after all the expenses?
Do not fall into the trap of focusing on only one of them, but monitor both on a monthly basis, and start improving both with small steps that lead to a big change in the long term.
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