Gross margin

What it means

Gross margin is calculated as (sales minus cost of goods sold) divided by sales. In a café, cost of goods sold is mainly coffee beans, milk and food; in a retail franchise it is the wholesale cost of stock; in a service franchise it may be materials and subcontracted labour. A higher gross margin means more of every dollar is available to pay rent, staff and system fees and to leave a profit.

Different franchise categories have very different typical margins. Food and hospitality often run high gross margins on drinks but tighter margins once wastage and labour are counted; retail margins depend on the buying power the network negotiates; services can have very high gross margins because the main input is time. Comparing a franchise's gross margin to its category norm is a quick health check.

In a franchise, supplier arrangements and rebates directly shape gross margin. If the franchisor requires purchasing through approved suppliers, the prices negotiated — and any rebates the franchisor receives — affect the franchisee's cost of goods and therefore their margin. This is why supplier terms and rebate disclosure matter to unit economics.

In practice

When reviewing a franchise, ask what typical gross margins current franchisees achieve and how they compare with the wider industry. A margin well below the norm can signal expensive mandated supply, high wastage or under-pricing.

Remember that gross margin is not profit. A business can have a healthy gross margin and still lose money if rent, wages and fees are too high for its sales. Use gross margin together with fixed costs to find the break-even point and the true owner's return.

A real example

A juice-bar franchise sells $500,000 a year and spends $175,000 on fruit, cups and other direct inputs, giving a gross margin of 65%. That $325,000 of gross profit must then cover rent, wages, the royalty and marketing levy before the owner sees any net profit — which is why the owner also watches fixed costs closely.

Gross margin — FAQs