If you’re the kind of person who loves reading stories about the characters involved and the journey behind a business, keep reading.
If you just want to get straight to the fundamental terms, feel free to scroll down.
Preface…
In a small rural town in India, a man named Vishwa, had a dream to build a notebook company. He started without a brand name, sourcing products from different vendors, experimenting, and learning about the notebook market.
He discovered something interesting: a good number of people love journaling with real paper journals, but very few brands served that market well. He studied consumer behaviour and noticed that journalers are usually introspective and creative. So, a personalized journal, with space for emotions, random sketches, and a customizable cover with their name, could really connect deeply with customers.
Vishwa named his brand “I’m Paper”. He produced a few copies and sold them. This cycle repeated, and slowly, his growth started to pick up. As demand increased, Vishwa wanted to EXPAND, but a question popped into his mind:
“Should I expand my business just because demand is increasing?”
Let me ask you this: What would you advise Vishwa? Should he expand? Drop your answers in the comments after reading the entire blog.
Business is all about numbers.
Sure, some successful founders say, “We followed our gut,” or “We took a risky leap based on instinct.” But here’s the truth: confident decision-making like that usually comes from one of two things: a powerful vision, or rock-solid numbers.
Confidence backed by numbers never fails you or your business. When running a startup, it’s crucial to evaluate how good your numbers are. Strong numbers improve the success rate of your risky decisions.
Vision gives you purpose. Numbers give you clarity.
That’s the essence of this whole blog. If Vishwa wants to expand, he needs to understand his revenue, profits, and everything beyond that. So through the story of “I’m Paper,” let’s dive into 7 Fundamental Terms every founder should know, whether you’re running a D2C brand, a manufacturing company, a restaurant, or a SaaS startup. These terms will help you truly understand your business.
Let’s get started.
1. Gross Revenue
Imagine I gave you 10 candies and asked you to sell them. The total amount you get after selling all candies is your Gross Revenue.
Gross Revenue is the total sales amount of your products before deducting any expenses.
For “I’m Paper,” the selling price of each personalized journal is ₹250. They sold 500 journals last month. Let’s calculate their Gross Revenue:
Formula:
Gross Revenue = Selling Price per unit × Total units sold
Calculation:
₹250 × 500 = ₹1,25,000
So, “I’m Paper” made ₹1,25,000 in Gross Revenue.
Gross Revenue is a key indicator investors look at to understand the market size you’ve captured. Small Gross Revenue limits growth, while bigger revenue means bigger potential, if you manage costs well.
2. Cost of Goods Sold (COGS)
COGS is your baseline, it helps you calculate profit per unit sold. This cost must be optimized regularly to maximize profit.
If your COGS is high, you have two choices to stay afloat:
- Raise your product’s selling price, or
- Find ways to produce your product cheaper
COGS includes all variable costs directly tied to making the product: raw materials, manufacturing, printing, delivery, packaging, R&D… everything involved in creating the final product.
Should a founder obsess over reducing COGS? Absolutely – YES, YES, YES!
For “I’m Paper,” it costs ₹80 to make one personalized journal.
Formula:
COGS = Direct Cost per unit × Total units sold
Calculation:
₹80 × 500 = ₹40,000
So, the COGS for 500 journals is ₹40,000.
3. Gross Profit
This is a key indicator of your business’s health.
Gross Profit = Money you make after subtracting COGS from your total revenue. The leftover covers salaries, marketing, software maintenance, infrastructure, and more.
If your Gross Profit is low, growth becomes very difficult even with high revenue. Gross Profit shows how efficiently you produce and sell your product.
For “I’m Paper,” Gross Revenue is ₹1,25,000 and COGS is ₹40,000.
Formula:
Gross Profit = Gross Revenue – COGS
Calculation:
₹1,25,000 – ₹40,000 = ₹85,000
So, the Gross Profit is ₹85,000. This is the amount available to pay salaries, marketing, and other expenses.
4. Gross Margin
We’ve covered Gross Revenue, COGS, and Gross Profit. Now, let’s look at Gross Margin.
Gross Margin is calculated in percentages and tells you how efficiently your product generates profit. The higher, the better. If your Gross Margin is below industry averages, it’s a warning sign to rethink your operations, team, and processes.
Gross Margin shows how much profit you keep per ₹100 of sales.
For “I’m Paper,” Gross Profit is ₹85,000, and Gross Revenue is ₹1,25,000.
Formula:
(Gross Profit / Gross Revenue) × 100
Calculation:
(₹85,000 / ₹1,25,000) × 100 = 68%
This means for every ₹100 earned, ₹68 stays with the company after covering production costs.
Let me give you another example:
Apple vendor:
- Sells 1,000 apples/month
- Cost per apple: ₹10
- Selling price per apple: ₹50
Gross Revenue: ₹50 × 1,000 = ₹50,000
COGS: ₹10 × 1,000 = ₹10,000
Gross Profit: ₹50,000 – ₹10,000 = ₹40,000
Gross Margin: (₹40,000 / ₹50,000) × 100 = 80%
So, for every ₹100 the apple vendor makes, ₹80 stays with vendor after production costs.
In short:
- Gross Revenue is what you make
- Gross Profit is what you keep
- Gross Margin is how well you do it
5. Operating Expenses (OPEX)
Operating Expenses, or OPEX, are the costs required to run day-to-day business operations, excluding production costs.
Imagine you purchased a car. The OPEX for the car includes petrol, servicing, repairs, all the daily costs, but not the car’s purchase price.
For “I’m Paper,” OPEX includes salaries, software, marketing, office maintenance, rent, tools, etc, all those that are essential for day-to-day business operations.
Lower OPEX means higher profits.
Calculation for “I’m Paper”:
- Salaries: ₹25,000
- Rent: ₹10,000
- Marketing: ₹5,000
- Software: ₹2,000
- Miscellaneous: ₹2,000
Total OPEX: ₹25,000 + ₹10,000 + ₹5,000 + ₹2,000 + ₹2,000 = ₹44,000
So, the operating expenses for “I’m Paper” are ₹44,000 per month.
Note: OPEX does not include COGS, loan interest, taxes, or capital expenditures (CapEx).
6. Net Profit
Net Profit (or Net Income) is the bottom line , the money left after subtracting COGS and OPEX from Gross Revenue.
In simple terms, it’s what stays in your business’s pocket after running the whole show.
- If Net Profit > (COGS + OPEX), business is Cash Positive
- If Net Profit = (COGS + OPEX), business is Break-even
- If Net Profit < (COGS + OPEX), business is Cash Negative and losing money
Investors love positive Net Profit, it shows financial strength.
Let’s calculate “I’m Paper’s” Net Profit:
Formula:
Net Profit = Gross Profit – OPEX
Calculation:
₹85,000 – ₹44,000 = ₹41,000
So, “I’m Paper” is cashing in ₹41,000 as net profit, positive cash flow!
(We’ll discuss advanced Net Profit calculations with taxes, interest, and depreciation in Part 2.)
7. Net Margin
Net Margin shows the percentage of revenue that stays as profit after all expenses, including production, salaries, rent, marketing, taxes, and interest.
For “I’m Paper,” Net Profit is ₹41,000 and Gross Revenue is ₹1,25,000.
Formula:
(Net Profit / Gross Revenue) × 100
Calculation:
(₹41,000 / ₹1,25,000) × 100 = 33%
So for every ₹100 “I’m Paper” earns, ₹33 remains as clean profit after all costs.
Many founders get caught up celebrating revenue, but the real indicator is Net Profit and Net Margin.
You could have ₹1 crore in revenue but only ₹1 lakh in profit, which means the business is struggling somewhere, maybe in COGS, OPEX, or pricing.
It’s crucial to identify and fix that before investing more time and money.
Summary:
In this blog, we’ve discussed Gross Revenue, Cost of Goods Sold (COGS), Gross Profit, Gross Margin, Operating Expenses (OPEX), Net Profit, and Net Margin.
- Gross Revenue is the total sales amount.
- COGS is the cost of the product before the sale.
- Gross Profit is what you keep before deducting expenses.
- Gross Margin shows the efficiency of your profit before subtracting OPEX.
- OPEX is the sum of all costs involved in the day-to-day operations of your business.
- Net Profit is what you take home after all expenses are deducted.
- Net Margin shows the efficiency of your profit after deducting OPEX.
Conclusion:
Unit Economics is nothing but simple math. But this simple math tells a lot about your business. Many struggle to become profitable in the initial stages, but Vishwa, with his brand “I’m Paper,” has done a commendable job in achieving profitability very early.
Now you might have a question:
What’s so great about becoming profitable early? Brands like Amazon became profitable only after sustaining losses for many long years?
If this is what you think, then yes, I agree, a business can become profitable even after sustaining losses for a long time, but only if it has a larger vision, a wide market and audience, heavy investor backing, and consistent growth in the number of new customers. For Amazon, all these boxes were checked.
But for a small business just starting out, like “I’m Paper,” achieving profitability early is really important.
With profitability, “I’m Paper” has the luxury to try and experiment with new SKUs, enhance quality, buy in bulk, and even secure loans from banks by showing its profitability.
This isn’t over yet, we will cover more Unit Economics Terminologies in Part 2.
Assignment for you all:
If you are reading this section, then I’m sure you might have liked this blog. I strongly believe that learning without practice is like a half-hearted attempt to reach your goal. I want you to close this blog by solving this assignment. You can type your answers in the comment section.
Shyam is the owner of a wardrobe manufacturing company called “SmileyCloset.” Last month, he sold 55 closets last month at a selling price of ₹20,000 each. The cost of making one wardrobe is ₹8,500, which includes manufacturing, raw materials, shipping, machinery, and tools.
The operating expenses are:
- Salaries – ₹1,00,000
- Rent – ₹1,00,000
- Marketing – ₹60,000
- Electricity – ₹45,000
With all these details, calculate: Gross Revenue, COGS, Gross Profit, Gross Margin, OPEX, Net Profit, Net Margin. Answer in comments.
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