A:

There are three progressively more inclusive and accurate measures of a company's profitability: gross profit margin, operating profit margin and net profit margin. Gross profit margin is the most basic of the three and only includes direct production costs. It does not include general overhead costs, taxes or interest on debt.

Profit margin, expressed as a percentage, measures what a company makes per sale. Gross profit margin is calculated as revenue minus the cost of the goods directly required for production, and then divided by revenue. An example is the sale price of a computer minus the cost of all the component parts required to manufacture the computer. Then, divide that figure by the sales price figure to arrive at the gross profit margin percentage.

The next level of profitability is the operating profit margin. Operating profit margin includes indirect costs in the calculation, subtracting those along with direct costs before dividing by the sales price figure. The indirect costs include all those commonly associated with a company's overhead or operational costs. These include things such as salaries and benefits for employees; building costs, such as rental and maintenance; product advertising; general corporate marketing costs; general administrative costs; and delivery costs. Essentially, it includes all costs beyond the direct cost of parts required for manufacturing except for taxes and interest paid on loans. For this reason, operating profit is also referred to as "earnings before taxes and interest," or EBIT.

The final profitability measure, the most all-inclusive, is the net profit margin. Net profit margin shows the actual revenue retained by a company after all expenses are deducted, including taxes, interest payments and any extra expenses not deducted in the calculations of gross profit margin or operating profit margin.

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