Profit margin is a measure of profitability. It is calculated using a formula and written as a percentage or a number. It can also be called Net Profit Ratio.

Profit margin = Net income / Revenue = Net Profit / Sales Revenue

Mostly used for internal comparison. It is difficult to compare accurately the net profit ratio for different entities. Individual business' operating and financing arrangements vary so much that entities are bound to have different levels of expenditure, that comparison of one with another can have little meaning.

For example, suppose a company produces bread and sells it for 10 units of currency. It costs the company 6 units of currency to produce the bread and it also had to pay an additional 2 units of currency in tax.

That makes the company's net income 2 units of currency (10 - 6, before tax, then minus 2 for tax). Since its revenue is 10 units of currency, the profit margin would be (2 / 10) or 20%.

Profit margin is an indicator of a company's pricing policies and its ability to control costs. Differences in competitive strategy and product mix cause profit margin to vary among different companies.


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