A:

Gross profit margin and operating profit margin are two commonly used measures of profitability. The difference between them is that gross profit margin only figures in the direct costs of production, while operating profit margin takes into account additional costs commonly referred to as "overhead."

Gross profit margin is calculated by looking at revenue minus the cost of goods required for production. A simple example is an auto manufacturer. Gross profit margin is what an automobile sells for minus the cost of all the parts, such as engine parts, tires and interior parts, required to build the car. Gross profit margin is expressed as a percentage, arrived at by subtracting cost of goods from revenue, and then dividing that figure by revenue. If a manufacturer sells each product for $10,000, and the various parts required to build the product cost a total of $2,000, the manufacturer's gross profit margin is 80%. Gross profit margin is considered the most basic measure of profitability and is commonly used to estimate a company's ability for expansion.

Operating profit margin is calculated by taking the gross profit figure and then subtracting all the indirect costs involved in production and delivery of goods, such as salaries; marketing and advertising costs; and general administrative expenses. Operating profit is often referred to as "earnings before interest and tax," or EBIT, as it includes all operating costs except interest on debt and the company's taxes. Like gross profit margin, operating profit margin is expressed as a percentage. The same calculation is used; the only difference is subtracting the additional operating costs before dividing by revenue. Using the same example as above, if the manufacturer's operating costs beyond the cost of goods directly used in production add up to an additional $3,000, the operating profit margin is 50% as compared to the gross profit margin of 80%. Operating profit margin is a more accurate measure of profitability and it is considered more indicative of a company's long-term ability to survive financially and grow.

RELATED FAQS
  1. What costs are not counted in gross profit margin?

    Explore the various measures of a company's profitability, such as gross, operating and net profit margins, and understand ... Read Answer >>
  2. What is the difference between operating margin and contribution margin?

    Understand the difference between two measures of profitability, operating margin and contribution margin, and the purpose ... Read Answer >>
  3. What is the difference between revenue and cost in gross margin?

    Discover the differences between revenue and cost in gross margin, along with an explanation of various measures of profitability. Read Answer >>
  4. What is the difference between operating margin and profit margin?

    Understand the difference between operating margin and profit margin in relation to evaluating a company's profitability ... Read Answer >>
  5. What is the difference between gross margin and operating margin?

    Understand the difference between gross margin and operating margin in relation to evaluating a company's overall profitability ... Read Answer >>
Related Articles
  1. Investing

    The Difference Between Gross and Net Profit Margin

    To calculate gross profit margin, subtract the cost of goods sold from a company’s revenue; then divide by revenue.
  2. Investing

    A Look At Corporate Profit Margins

    Take a deeper look at a company's profitability with the help of profit margin ratios.
  3. Investing

    Profitability Indicator Ratios

    Learn about profit margin analysis, effective tax rate, return on assets, return on equity and return on capital employed.
  4. Investing

    Gross, Operating and Net Profit Margins

    A company’s income statement includes the company’s gross, operating and net profits.
  5. Managing Wealth

    What's a Good Profit Margin for a Mature Business?

    How to determine if the amount you clear dovetails with the competition.
  6. Investing

    The Gross Margin

    A business's "gross margin" is a rough gauge of how profitable its operations are. It measures how much sales revenue the company retains after all of the direct costs associated with making ...
  7. Taxes

    What is Gross Income?

    Gross income is an individual’s total income before taxes and other adjustments are considered.
RELATED TERMS
  1. Profit Margin

    Profit margin is part of a category of profitability ratios calculated ...
  2. Gross Profit

    A company's total revenue (equivalent to total sales) minus the ...
  3. Gross Profit Margin

    A financial metric used to assess a firm's financial health by ...
  4. Adjusted Gross Margin

    A calculation used to determine the profitability of a product, ...
  5. Marginal Profit

    Marginal profit is the profit earned by a firm or individual ...
  6. Net Profit Margin

    Net Margin is the ratio of net profits to revenues for a company ...
Hot Definitions
  1. Current Ratio

    The current ratio is a liquidity ratio measuring a company's ability to pay short-term and long-term obligations, also known ...
  2. SEC Form 13F

    A filing with the Securities and Exchange Commission (SEC), also known as the Information Required of Institutional Investment ...
  3. Quantitative Easing

    An unconventional monetary policy in which a central bank purchases private sector financial assets in order to lower interest ...
  4. Risk Averse

    A description of an investor who, when faced with two investments with a similar expected return (but different risks), will ...
  5. Indirect Tax

    A tax that increases the price of a good so that consumers are actually paying the tax by paying more for the products. An ...
  6. Zero-Sum Game

    A situation in which one person’s gain is equivalent to another’s loss, so that the net change in wealth or benefit is zero. ...
Trading Center