What is Gross Margin?
Gross Margin is the revenue a company retains after incurring the Cost of Goods Sold (COGS). It is a critical measure of a product's profitability, showing how efficiently you can produce or deliver your service.
It is typically expressed as a percentage, which is the dollar or pound value left over from each sale.
The Formula The Gross Margin formula is straightforward:
(Revenue – Cost of Goods Sold) ÷ Revenue = Gross Margin (%)
What is COGS? COGS includes all direct costs associated with producing your product:
- For SaaS: Server hosting, licensing fees for third-party tools essential to the product, and customer support (sometimes). Salaries for developers are usually not included.
- For E-commerce: The wholesale cost of the item, shipping materials, and direct labor for assembly.
The Startup Context
- High Margin: SaaS and software companies typically have very high gross margins (75%–95%) because once the software is built, the COGS for each additional user (server costs) is very low. This high margin gives them huge amounts of money to spend on growth (salaries, marketing).
- Low Margin: E-commerce and physical goods usually have low gross margins (20%–50%) due to material and fulfillment costs.
A key indicator of a healthy company is a consistently high or rising Gross Margin, proving that the unit economics of the business are sound.
Key Takeaway: Gross Margin tells you if your product is financially viable. You must have a high margin to afford your overhead costs and marketing budget.
