Sales Up 20%, Gross Profit Down 25%: Read the Cost Bridge

By the MerlaTech team. Fictional educational case; AI-assisted illustration and writing.

Sales growth sounds encouraging. But how much gross profit remains after the cost of those sales? Our invented business reports higher revenue in year two while gross profit shrinks. The useful question is what changed between those two lines.

Fictional annual USD-million case: revenue100 to120, cost of sales60 to90, gross profit40 to30, gross margin40% to25%. Cost bridge40+20-30=30.
Original SignalSage research illustration. Totals establish the arithmetic, not the business cause.

Two years, four measures

All figures below are hypothetical annual USD millions. Revenue is assumed net of returns and discounts; both years use the same reporting basis.

MeasureYear 1Year 2Change
Revenue100120+20%
Cost of sales6090+50%
Gross profit4030−25%
Gross margin40%25%−15 percentage points

Gross profit is revenue minus cost of sales. Gross margin, as a percentage here, is gross profit divided by revenue. In year two, 120 − 90 = 30, and 30 / 120 = 25%. The drop from 40% to 25% is 15 percentage points; do not label it a 15% relative decline.

Follow the cost bridge

40 +20 extra revenue −30 extra cost of sales =30 gross profit. This bridge reconciles the change: the additional cost is larger than the additional revenue. It does not tell us whether the cause was pricing, mix, volume, input costs or an accounting classification change.

Three questions to investigate

  1. Pricing and discounts: did realized selling prices change? Separate price from volume instead of equating revenue growth with stronger demand.
  2. Product mix: did lower-margin products become a larger part of sales? Look for disclosed segment or product information.
  3. Cost basis: what is included in cost of sales? Investigate material, labor, shipping and classification changes where relevant; these are questions, not established facts about this example.

The SEC's financial-statement guide distinguishes gross profit from later expense deductions and explains why cash flows need a separate statement. Gross profit is not net income or cash generated. See the SEC Beginners' Guide to Financial Statements for definitions; it does not endorse our example or app.

Try the sensitivity check

Hold year-two revenue at 120. If cost of sales were 80 instead of 90, gross profit would be 40 and gross margin 33.33%. Dollar gross profit would equal year one, but the margin would still be below 40%. This is fixed-assumption arithmetic, not a forecast.

Watch the 74-second walkthrough

The video includes dynamic comparisons, synthetic English narration, original music and captions. Save the checklist and follow MerlaTech for practical US-stock research cases.

Continue your research with SignalSage

We are the team behind SignalSage. Choose iPhone or Android on our download page. The interface is in English; some features require in-app purchases or subscriptions. This worksheet does not claim the app automatically reconciles financial statements.

Hypothetical education, not investment advice, an actual company result or a return forecast. Availability may vary by region.

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