Gross Margin
Date: 2026-08-16
Revenue minus cost of goods. It’s the headline profitability number and the wrong one for almost every operational decision, because it stops before delivery, payment fees and returns — which is where a retail order’s costs actually accumulate.
What it is
Gross margin is revenue less cost of goods sold, expressed in currency or as a percentage of revenue.
revenue £50.00
− cost of goods £27.50
───────
gross margin £22.50 → 45%
Margin versus markup
The confusion that produces real pricing errors, because they’re different denominators:
cost £27.50, sell at £50.00
margin (50 − 27.50) ÷ 50 = 45% ← of the selling price
markup (50 − 27.50) ÷ 27.50 = 82% ← of the cost
Same transaction, two very different-sounding numbers. Suppliers usually quote markup, retailers usually think in margin, and “we need 50%” means different prices depending on which one is meant.
To convert:
price = cost ÷ (1 − margin) for a 45% margin: 27.50 ÷ 0.55 = £50.00
price = cost × (1 + markup) for an 82% markup: 27.50 × 1.82 = £50.05
Why it’s the wrong number for decisions
It stops too early. Everything between gross margin and Contribution Margin is real money that scales with the sale:
gross margin £22.50
− payment fees £1.00
− packaging £1.50
− fulfilment £3.00
− returns provision £2.00
───────
contribution margin £15.00
A third of the gross margin disappears before you get to what a sale actually contributes. Any decision made on £22.50 — how much to pay for a customer, whether a discount works, where to set free shipping — is made on a number 50% too generous.
In plain terms: gross margin tells you whether the buying is right. Contribution margin tells you whether the selling is right, and they’re different questions.
What it’s genuinely for
- Buying and range decisions. Which products, at what cost, at what price
- Category comparison on the merchandise itself, before operational differences
- Benchmarking, because gross margin is the figure companies publish — with the caveat that what’s in cost of goods varies by company, so external comparison is looser than it looks
- The ceiling on everything else. Contribution can’t exceed gross, so a low gross margin caps what any operational improvement can achieve
Where it misleads in retail
- Category mix. A blended 45% might be 60% on accessories and 25% on electronics. Growth in the second lowers blended margin with nothing wrong — Basket Composition, Simpson’s Paradox
- It ignores return rates entirely. Two categories at identical gross margin have very different economics at 5% and 30% returns — Return Rate and Reverse Logistics
- It ignores delivery. A bulky low-value item can have healthy gross margin and negative contribution
- Discounts hit it disproportionately. A 10% discount on a 45% margin removes 22% of the gross margin, because the discount comes entirely out of margin rather than out of cost — Discount Impact on Margin
What belongs in cost of goods
Genuinely contested, and it changes the number:
| Usually in | Usually out |
|---|---|
| Purchase price from supplier | Marketing |
| Inbound freight and duty | Warehouse rent |
| Direct production costs | Payment processing |
| Supplier rebates (as a credit) | Outbound delivery |
Be consistent rather than correct. The comparison over time matters more than matching anyone else’s definition — and changing what’s in cost of goods mid-year produces a margin step that looks like performance — Metric Drift.