If you want to know how well your business uses its revenues to generate a profit, use the profit margin equation. This accounting formula shows the overall health of your company:
Profit margin = net income ÷ sales
What this accounting equation includes:
- Net income is the total amount of money your business has made after removing expenses.
- Sales refer to the operating revenue you generate from business activities.
When you divide your net income by your sales, you’ll get your organization’s profit margin. Your profit margin reports the net income earned on each dollar of sales. A high profit margin indicates a very healthy company. A low profit margin could suggest that your business does not handle expenses well.
Remember that your net income is made up of your total revenue minus your expenses. If you have high sales revenue but still have a low profit margin, it might be time to take a look at the figures making up your net income.