The template contains example figures for a business called Joe's Tyres. Compare the figures in the template with those listed in the examples that follow on this page.

Calculating your price of goods to earn a profit

There are 2 margins that you need to consider when monitoring the profitability of your business:

• gross margin
• net margin

Knowing these figures helps you to set prices for goods and work out your sales targets.

What is gross margin?

Gross margin is money left after subtracting the cost of the goods sold (COGS) from the net sales. Net sales is the total value of sales for a given period less any discounts given to customers and commissions paid to sales representatives.

Gross margin can be expressed as a percentage value or as a dollar value (called gross profit).

Gross margin isn't commonly used for service businesses as they usually don't have cost of goods.

How to calculate gross profit and margin

To calculate gross profit (dollar value):

• Gross profit ($) = net sales − COGS

To calculate gross margin (percentage value):

• Gross margin (%) = (gross profit ÷ net sales dollars) × 100

Once you have your gross margin, you can calculate your net margin.

Example: Joe's Tyres

• Gross profit for Joe's Tyres: $52,000 − $31,200 = $20,800
• Gross margin for Joe's Tyres: $20,800 ÷ $52,000 × 100 = 40%

Joe's Tyres has a gross profit of $20,800. The business's overhead expenses must be less than this to earn a profit.

The gross profit and gross margin figures for Joe's Tyres are listed in the example profit and loss sheet of the financial statements template.

What is net margin?

Net margin is your gross margin less your business overhead expenses. It's your profit before you pay tax. Tax isn't included because tax rates and tax liabilities vary from business to business.

Net margin can be expressed as a percentage value or as a dollar value (called net profit).

How to calculate net profit and margin

To calculate net profit (dollar value):

• Net profit ($) = net sales − total of both COGS and overhead expenses
  or
• Net profit ($) = gross profit − overhead expenses

To calculate net margin (percentage value):

• Net margin (%) = (net profit dollars ÷ net sales dollars) × 100

If the net margin is 10%, then for every dollar of goods sold you'll make 10 cents in profit before tax after you've paid COGS and overhead expenses.

Example: Joe's Tyres

• Net profit for Joe's Tyres: $20,800 − $15,600 = $5200
• Net margin for Joe's Tyres: ($5200 ÷ $52,000) × 100 = 10%

Joe's Tyres will earn 10% of $52 (or $5.20) from every tyre sold.

The net profit figures for Joe's Tyres are listed in the example profit and loss sheet of the financial statements template.

What is markup?

Markup is the percentage price that you sell goods for above what it costs you to purchase or manufacture them. The sales price must cover the cost of the goods plus any overhead expenses to allow you to earn profit.

Markup is generally used when referring to the sale of products rather than services.

How to calculate markup

• Markup percentage value = (sales – COGS) ÷ COGS × 100
  or
• Markup percentage value = (gross profit ÷ COGS) × 100

Example: Joe's Tyres

• ($52,000 − $31,200) ÷ $31,200 × 100 = 66.67%

The markup percentage for Joe's Tyres is 66.67%.

To reach the gross profit of $20,800 by selling tyres bought for $31.20, Joe will multiply his unit cost price by the unit cost plus the markup percentage ($31.20 × 1.6667 = $52).

Each tyre will have a minimum price of $52 to earn enough money to cover business expenses.

What is break-even?

The break-even point shows the sales your business needs to make in dollars or units before your expenses are covered and you can start making a profit (before tax).

Break-even analysis is helpful when preparing and updating your business plan. You can use your break-even to set sales targets for yourself or your staff.

How to calculate break-even

Use the following calculations to find where your profits start.

To calculate your break-even (dollar value) before net profit:

• Break-even ($) = overhead expenses ÷ (1 − (COGS ÷ total sales))

If you know the unit's sale price and cost price and the business operating expenses, you can calculate the number of units you need to sell before you start making a profit.

To calculate your break-even (units to sell) before net profit:

• Break-even (units) = overhead expenses ÷ (unit selling price − unit cost to produce)

Example: Joe's Tyres

• Break-even (dollar value) for Joe's Tyres: $15,600 ÷ (1 − ($31,200 ÷ $52,000)) = $39,000
• Break-even (units) for Joe's Tyres: $15,600 ÷ ($52 − $31.20) = 750

Joe's Tyres will need to sell 750 units or $39,000 worth of stock before the business earns any profit (before tax).