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Gross Margin

Gross Profit is the percent of revenue retained by a company after they pay their Cost of Goods Sold (COGS). For a given month:

Gross Profit = RevenueCOGS

Gross Margin is Gross Profit as a percent of revenue.

Gross Margin=Gross Profit÷Revenue

A hallmark of SaaS companies is low COGS (typically just consisting of hosting and customer support costs) and therefore very high gross margins (often 80%+), which goes a long way towards long term profitability. However, as a company is scaling it's still important to monitor gross profit. Some companies use customer support and operations employees to manually fill holes in the product, or have computationally intensive products where they have to pass on lots of their revenue to hosting providers. Similarly, vertical SaaS and hybrid SaaS companies pay incorporate low margin payments or real world services. It's fine to have a low gross margin when a company is young and scaling, but understanding the costs levers and the long term margins of the business is vital. Businesses can be successful with a wide range of gross margins, but if operators aren't aware of their margins, they risk having unprofitable customer acquisition and service motions, which drain cash and put the business at risk.

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