Gross margin

Gross margin is the percentage of revenue remaining after the cost of goods sold (COGS): (Revenue - COGS) / Revenue. COGS covers the direct costs of producing what was sold, such as hosting costs and support for a software product, or materials and manufacturing labor for a physical one. The dollar version of the same calculation, Revenue - COGS, is gross profit; gross margin expresses it as a percentage.

Gross margin is narrower than contribution margin, which subtracts all variable costs, including ones like sales commissions that sit below COGS on the income statement rather than direct production costs. It is also distinct from net margin or EBITDA margin, which continue subtracting operating expenses like sales, marketing, and R&D.

Gross margin matters because it sets a ceiling on how much a business has left to fund everything else it does, growth spending, overhead, and profit, and is one of the two components of the rule of 40 used to judge SaaS company health. Typical healthy ranges vary enormously by industry, from thin retail margins to high software margins, so gross margin is most useful compared against direct peers rather than against a universal benchmark, and a common pitfall is comparing it across companies that classify costs like hosting or customer support differently between COGS and operating expenses.