How to Calculate Operating Margin

Operating margin is a measuring unit of what proportion of the revenue of an organization is left over after making the payments for variable costs of production like raw materials, wages etc. How to calculate operating margin is a must to know for an entrepreneur of an organization. A sound operating margin is much needed for an organization to be able to pay for its permanent costs like interest on debt.

Operating margins represent the ability of an organization to pay its permanent costs. Permanent costs are those costs which are to be paid every time after certain period such as a monthly payment. A very common permanent cost is the rent which is due each month. Operating margin can be computed by dividing operating income by revenue earned. Revenue is actually the net sales. Calculation of operating margin is essential because it represents the ability of the organization to carry on in the short run.

There is a formula which is used to derive the operating margin. That is:

Operating margin = operating income / revenue

You can calculate operating margin very easily. It can be calculated in very few and simple steps.

Step for calculation

  • Find out the operating income of the organization. Operating income is actually the operating expenses subtracted from operating revenue. The expenses and revenues from operations are the cash outflows and inflows respectively, which a firm experiences during its day to day functions. For instance, let us suppose company A poses $ 500,000 of operating income for the entire month.
  • Find out the net sales of the organization for the given period. Net sales are the amount of sales from which any deductions for returns, allowances and discounts are deducted during the given period. Let us assume, company A poses $ 900,000 of net sales for the given month.
  • Operating income is divided by the net sales to find out the operating margin of the company. Here in this example, $ 500,000 is divided by $ 900,000 which is equal to an operating margin of 0.555 that is 55 %.

$ 500,000 / $ 900,000 = 0.555 or 55 %

Tips and warnings

  • When expressed as a percentage, the operating margin shows the percentage of every dollar of revenue which is the profit.
  • Search for your operating margin during a specific time period to find out that whether your company is rising profitably or not in that time period.
  • You should compare the operating margin ratio of the company to that of the competing¬†companies¬†in the industry to get a better idea of your position in the market.

For an entrepreneur, it is very important to know how to calculate operating margin as through this you can know that if your company is doing well or not. I hope this article was beneficial for you in learning how to calculate operating margin.

Related Content:

  1. How to Calculate Margin
  2. How to Calculate Profit Margin
  3. How to Calculate Net Earnings
  4. How to Calculate Net Credit Sales
  5. How to Calculate Stock Turnover

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