Gross margin

Definition

Gross margin is the proportion of revenue left once you deduct the direct cost of producing what you sold — the cost of goods sold, or COGS. Expressed as a percentage, it is (revenue − cost of sales) ÷ revenue. A gross margin of 45% means that for every £100 of sales, £45 remains after the direct costs of delivering those sales, available to cover overheads and leave a profit. It measures the profitability of your core trade, before the running costs of the wider business.

In plain terms

Gross margin asks: after paying for the raw ingredients of each sale, how much is left to run everything else? A wholesaler buying at £70 and selling at £100 has a 30% gross margin; a software firm with almost no cost per extra sale may have 85%. The figure reveals your pricing power and how efficiently you produce. It sits a rung above net margin, which goes on to subtract the overheads, tax and interest that gross margin leaves untouched.

Why it matters to your business

Gross margin is the engine room of profitability. A thin gross margin means there is little headroom to absorb overheads, price rises from suppliers, or a discount to win a deal — and almost no cushion for error. A healthy one gives you room to invest, weather cost increases and survive a quiet patch. Tracking it over time flags problems early: a margin sliding downward usually means input costs are creeping up faster than your prices, or your sales mix is shifting toward lower-margin lines. Protecting gross margin is often more valuable than chasing extra revenue, because margin flows much more directly to the bottom line.

• Sets the ceiling on what overheads you can carry
• A falling trend warns of cost or pricing pressure
• Protecting margin beats chasing low-margin volume

What lenders read into it

A lender weighing up affordability treats gross margin as a measure of how robust your trade is. A strong, stable gross margin signals genuine pricing power and a business that can absorb a shock without tipping into loss — which makes repayments look safer. A thin or erratic margin suggests a business with little slack, where a modest cost rise or lost contract could threaten the ability to service debt. Lenders look at the trend as much as the level: improving margins point to a business gaining strength. Strengthen the picture before applying — see improving business creditworthiness — and judge affordability honestly against your real numbers.