Gross profit is a financial instrument that is used to calculate the profit earned by the company that is associated with selling the products and providing services.
It is actually one of the many instruments that is used to measure the quantitative profitability of the company. It is simply depicted as cost of goods sold minus the revenue earned. It appears in the income statement of the company.
This calculation is the primary stage of assessment which will further be followed by deducting operating expenses, taxes, absorption costs etc. The dictionary meaning of Gross is entire or whole. The freshly earned and raw in nature called Gross profit does not take fixed costs in to account. The formulation simply stands at:
Gross Profit= Cost of goods sold-Sales revenue
Unlike the fixed costs that include rent, salary to employees who work for other departments apart from sales, insurance premium, advertising etc., Gross profit is a yardstick that is used to measure the profit earned in the proficiency of the labour and supply induced operations. This metric only takes variable costs into account. Variable cost is defined as the fluctuating requirements that sums up to the cost of goods according to the output that is being produced. These variable costs include:
- LLabour according to the requirement which is determined by the demand
- Salaries to be paid for the direct labour in consideration with the working hours that is being put in
- Shipping and freight charges
- Credit purchases by the consumers
- Utilities and equipments for the production process
- Depreciation on larger equipments and assets
Uses of Gross Profit
Gross profit is widely calculated by the inbound company employees to check the status of the company by the end of a supply cycle or the financial year to know the financial status as to how the firm is being viewed in the society and it holds a position in the income statement. The Gross Profit of the company is certainly unique because it projects the transparency of the progress made by the production team. The transparency is entertained in the initial stages as the formulation is also pretty simple. The latter stages of computation of the audit will contain more deductions such as operation costs, Absorption costs, Management costs, taxes etc.
Otherwise, Gross Profit is apprehended by investors who have a knack for stocks and are experienced traders. Any individual investor who is smart enough to know the trading algorithms will execute research on the interested company. This research will obviously take the gross profit of the company in account because it determines the credibility and the scope of the institution.
Most business firms that are functioning on the funds that collected from the public are eligible to be a part of the stock market. These companies are former IPOs(Initial public offer) that are later being listed by the stock exchange in the stock market ready to be invested in. Hence, before the listing of the firm in the market, the exchanges take from 15-30 days to approve the companies.
Gross Profit is a gateway computation for the calculation of gross margin. The difference between Gross profit and gross margin is that, Gross profit is arrived at currency value whereas the gross margin is represented in percentile format. Gross margin is used to evaluate and compare the company’s production capacity and efforts over time. Comparing currency values on the long run is quite misleading, especially when the margin and profit does not match.
Thus, the importance and uses of Gross profit are essential for the growth of every business institution for self improvement and to gain better social standards and goodwill among the society.