What is gross profit?

Published Monday 22 June 2026

Table of contents

• What is gross profit?
• Gross profit formula
• How to calculate gross profit
• Gross profit vs gross profit margin
• What is a good gross profit margin?
• How to improve your gross profit
• Gross profit vs net profit
• Gross profit vs operating profit
• Track your gross profit with Xero
• FAQs on gross profit

Key takeaways

• Gross profit is the money left after you subtract the direct costs of producing your goods or services from your total revenue. It shows whether your core business activity is profitable before overheads come into play.
• You calculate gross profit with a simple formula: revenue minus cost of goods sold (COGS). Tracking it regularly helps you spot pricing problems and rising costs early.
• Gross profit is different from net profit, which accounts for all your business expenses. Both matter, but gross profit tells you specifically how efficiently you're producing and delivering what you sell.
• A healthy gross profit margin varies by industry. Knowing where your business sits compared to similar businesses helps you set realistic targets.

What is gross profit?

Gross profit is one of the most important numbers on your profit and loss statement. It tells you how much money your business keeps after covering the direct costs of making or delivering your products and services.

Think of it as the first measure of your business's profitability. If your gross profit is healthy, it means your pricing and production costs are in good shape. If it's shrinking, something needs attention, whether that's your prices, your supplier costs, or how efficiently you're working.

Gross profit sits near the top of your profit and loss statement, just below revenue and cost of goods sold (COGS). It's the starting point from which you subtract operating expenses, taxes, and other costs to arrive at your net profit.

Gross profit formula

The gross profit formula is straightforward. Once you know your total revenue and your cost of goods sold, the calculation takes seconds.

Gross profit = revenue - cost of goods sold (COGS)

Revenue is the total income your business earns from selling goods or services before any costs are deducted. It includes all sales, whether paid upfront or invoiced on credit terms.

COGS covers the direct costs tied to producing what you sell. For a product-based business, this typically includes raw materials, direct labour, manufacturing overhead, and delivery costs. For a service business, it includes the direct labour and materials used to deliver the service.

COGS does not include indirect costs like rent, marketing, or office supplies. Those come later when calculating operating profit and net profit.

How to calculate gross profit

Here's how to calculate gross profit using a real-world example. Follow these steps to work out yours.

1. Add up your total revenue

This is all the income from sales during a specific period. For example, say you run a small bakery in Manchester and your total sales for the month come to £20,000.

2. Calculate your cost of goods sold

Add together all direct costs: ingredients (£4,000), direct staff wages for bakers (£3,000), packaging (£500), and delivery costs (£500). Your total COGS is £8,000.

3. Subtract COGS from revenue

£20,000 – £8,000 = £12,000. Your gross profit for the month is £12,000.

That £12,000 is what you have left to cover your rent, utilities, marketing, admin costs, and everything else before arriving at your net profit.

Gross profit vs gross profit margin

Gross profit and gross profit margin are closely related, but they tell you different things. Understanding both gives you a clearer picture of your business performance.

Gross profit is a pound amount. It tells you how much money you have left after direct costs. Gross profit margin is a percentage. It tells you what proportion of each pound of revenue you keep after direct costs.

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

Using the bakery example above: your gross profit is £12,000 and your revenue is £20,000. Your gross profit margin is (£12,000 / £20,000) x 100 = 60%. That means you keep 60p from every £1 of sales after covering direct costs.

The percentage is especially useful for comparing performance across different time periods or against other businesses, even if they're a different size to yours.

What is a good gross profit margin?

There's no single answer to this question because a "good" profit margin depends heavily on your industry. What's strong in retail might be weak in software.

Here are some typical UK gross profit margin ranges by sector:

• Retail businesses: 20–50%, depending on the product type and level of competition.
• Service businesses (for example, consulting, cleaning, or design): 50–70%, since direct costs are mainly labour.
• Software and SaaS businesses: 70–85%, because the cost of delivering each additional unit is relatively low.
• Food and hospitality: 30–40%, reflecting high ingredient and labour costs.
• Construction and trades: 25–40%, with significant material and subcontractor costs.

The important thing is to track your margin over time and compare it to similar businesses in your sector. A declining margin, even if still within the "normal" range, is a warning sign worth investigating.

How to improve your gross profit

If your gross profit isn't where you'd like it to be, there are practical steps you can take. Here are 6 strategies that work well for small businesses.

• Raise your prices strategically. Even a small price increase can have a big impact on gross profit. Test increases on your best-selling products or services first, and communicate the added value you provide.
• Negotiate better terms with suppliers. Review your supplier agreements regularly. You may be able to secure bulk discounts, longer payment terms, or lower prices by comparing quotes from alternative suppliers.
• Reduce waste and inefficiency. Track where materials, time, or resources are being wasted. Small improvements in production efficiency add up over the course of a year.
• Focus on high-margin products or services. Analyse which of your offerings deliver the best margins and consider directing more of your marketing and sales effort toward those.
• Streamline your operations. Look for ways to simplify processes, reduce unnecessary steps, or automate repetitive tasks. Faster, leaner operations mean lower direct costs per unit.
• Upsell and cross-sell. Encourage existing customers to buy complementary products or upgrade to premium options. Additional revenue from an existing customer often comes with minimal extra cost.

Gross profit vs net profit

Gross profit and net profit both measure profitability, but at different stages. Understanding the difference helps you pinpoint where your money is going.

Gross profit only accounts for direct production costs (COGS). Net profit goes further by also subtracting operating expenses (rent, salaries, marketing), interest on loans, and taxes. It's the bottom line, the amount your business actually keeps after every cost is paid.

You can use a net profit margin calculator to quickly see what percentage of your revenue becomes net profit.

Both figures matter. A strong gross profit with a weak net profit suggests your overheads are too high. A weak gross profit means there's a problem with your pricing or direct costs, and no amount of cutting overheads will fix it.

Gross profit vs operating profit

Operating profit sits between gross profit and net profit on your profit and loss statement. It gives you a view of profitability after both direct costs and day-to-day running costs are accounted for.

To calculate operating profit, you start with gross profit and subtract operating expenses such as rent, utilities, office salaries, insurance, and marketing. It excludes interest payments and taxes, which are included in net profit.

You might also come across EBITDA (earnings before interest, taxes, depreciation, and amortisation). EBITDA is similar to operating profit but adds back depreciation and amortisation, giving a view of cash-based operating performance. It's commonly used when comparing businesses or assessing value, but for most small businesses, operating profit is the more practical day-to-day measure.

Track your gross profit with Xero

Keeping a close eye on gross profit doesn't need to be a manual task. Cloud accounting software can pull the numbers together for you automatically, giving you real-time visibility into how your business is performing.

With Xero Accounting Software, your bank transactions flow in through automatic bank feeds and are categorised against your revenue and cost accounts. Your financial reports, including your profit and loss statement, update in real time so you can check your gross profit whenever you need to. Get one month free.

FAQs on gross profit

Here are some frequently asked questions about gross profit.

Does gross profit include wages?

It depends on the type of wages. Gross profit includes wages for staff directly involved in producing goods or delivering services, such as factory workers or on-site tradespeople. It doesn't include wages for office staff, management, or other indirect roles.

Can gross profit be negative?

Yes. If your cost of goods sold is higher than your revenue, your gross profit will be negative. This means you're spending more to produce your products or services than you're earning from selling them, which isn't sustainable.

Does a business pay tax on gross or net profit?

UK businesses pay corporation tax or income tax based on net profit (taxable profit), not gross profit. Net profit accounts for all allowable business expenses, which reduce the amount you're taxed on.

Does gross profit apply to service businesses?

Yes. For service businesses, COGS typically includes the direct labour costs and any materials used to deliver the service. The same gross profit formula applies regardless of whether you sell products or services.

How often should you track gross profit?

At a minimum, review your gross profit monthly. Tracking it regularly helps you catch changes in costs or pricing issues early, before they become bigger problems.