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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.

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