A ratio (financial ratio) that calculates an entity’s profitability by subtracting the cost of goods sold from its revenues and relating the resulting figure to its revenues. This margin is a measure of an entity’s financial performance in terms of its core function- its ability to generate gross profit.

Gross margin ratio reflects the difference between the price received by an entity for its products and services and the costs it incurred to produce them.

It is expressed as a percentage of revenue (sales) that reflects actual profit before adjusting for operating costs, such as marketing, overhead, and payroll. Gross profit ratio is determined by two factors: revenue and cost of goods sold (COGS: the direct costs that an entity incurs to make a product or deliver a service).

In a formula form, gross profit ratio is calculated as:

Gross profit ratio = (gross profit/ revenue) x 100

It may also be referred to as a gross profit margin (GPM).