How is gross profit calculated?

Gross profit is calculated by taking net sales and subtracting the cost of goods sold (COGS). This formula reflects the profit a company makes after accounting for the direct costs associated with producing and selling its goods or services. By using net sales, which refers to total revenue from sales minus returns, allowances, and discounts, this calculation helps in determining how efficiently a company is producing its products relative to its sales revenue.

The resulting gross profit provides insight into the core profitability of the company’s operations before other expenses such as operating expenses, interest, and taxes are taken into account. This metric is crucial for financial analysis as it highlights the basic profitability of the company's product sales.

Understanding this concept allows businesses to make informed decisions regarding pricing, production efficiency, and cost management.