Operating margin (OM) is defined as the ratio of operating profits to sales revenue. It represents the profits that a business makes before paying interest on its debt and tax. For example, if a retailer has sold $1,000 of goods that were acquired for a purchase price of $600, its gross margin is:

Gross margin = sales revenue – cost of goods sold

Gross margin = 1,000 – 600 = $400

For business expenses such rent, IT costs, and payroll, that amounted to $150, the operating margin is:

Operating margin = gross margin – operating expenses

Operating margin = 400 – 150 = $250

Or as a percentage,

Operating margin = margin amount/ sales revenue

Operating margin = 250/ 1000 = 25%

The above example is illustrated below:

Operating margin is a good indicator of how profitable a business is. A company that has a comfortably wider and consistently higher operating margin is one that can fare remarkably well against competition (i.e., one that has a competitive edge over its competitors).