When was the last time you felt left out? Sidelined in a conversation because you weren’t really sure what everyone was talking about? The playground when you were a kid? In the pub when your pal who loves craft beer was talking about DDH IPAs? When your kids were explaining how servers work in Minecraft? In the office when the technical lead was talking about… wait, what was it?
Well sometimes it’s the same in the world of finance. It can be confusing, all that terminology, all those acronyms. You know it’s important because it’s about money, your livelihood, your future and the future of your loved ones, but one more confusing thing and you just switch off.
It happens to the best of us.
So at Upside, we want to demystify some of this for you; to make it easier for you to figure it all out for yourself, for you to take control, and not just leave everything to “The Experts”. You can be your own expert!
So you think you’ve found a good company you may want to invest in, or submit an investment idea about. You’ve done a fair amount of research, downloaded the annual reports, read almost as much as your brain can take, and then it comes to the financials. Oh jeez… margins.
Let’s break it down for you. You have three main margins that are used to analyse the income statement activities of a company: Gross, Operating and Net. Margins are the difference between the seller’s cost for acquiring products and the selling price. Margins appear as percentages of net sales revenues.
What is considered a “good” margin varies depending on the industry of the company you are looking into. But luckily, there is a general rule of thumb. A 10% net profit margin is considered average, a 20% margin is considered good, and a 5% margin is low.
Your Gross Margin is the difference between revenue and cost of goods, divided by revenue. So if revenue is 100k and cost of goods is 40k , then the gross profit is 60k (100k-40k). Which means your gross margin is 60%.
Your Operating Margin is the difference between revenue and cost of goods and expenses, divided by revenue. So if revenue is 100k, cost of goods is 40k and expenses are 30k, then the operating income is 30k. Which means the operating margin is 30%.
Your Net Margin, or Net Profit Margin is the difference between revenue and cost of goods and expenses and interest and taxes, divided by revenue. So, if revenue is 100k, cost of goods is 40k, expenses are 30k, taxes are 5k, and interest is 5k, then the net income is 20k. Which means that the net margin is 20%.
But why bother with all of this? Well, knowing how to calculate and analyse these margins means you will be able to measure the efficiency of a company by comparing its profits against its costs at three different spots on an income statement. And that shiz is important.
Each of these margin measures show the amount of profit per dollar of a company’s revenue.
Gross, Operating and Net each individually gives a very different perspective on the company’s operational efficiency. These three margins taken together can provide insight into a firm’s operational strengths and weaknesses - a key in understanding the financial validity of a company.
Even better, these margins are also useful when making comparisons with competitors, as well as in identifying growth and loss trends. Boom.
See, simple right? All it takes is a guiding hand to help. You can find all this useful stuff on the Upside ecosystem. We’re always here to nudge you in the right direction, explaining, helping and making everything a little simpler so you can take control of your investment ideas and investments.
As Benjamin Franklin once said: “An investment in knowledge pays the best interest”, and at Upside, we couldn’t agree more.