Chartered Financial Analyst (CFA) Practice Exam Level 2

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How is Gross Profit Margin (GPM) calculated?

  1. GPM = (Sales - COGS) / Sales

  2. GPM = COGS/Sales

  3. GPM = Sales/COGS

  4. GPM = 1 - (Sales - COGS)

The correct answer is: GPM = (Sales - COGS) / Sales

Gross Profit Margin (GPM) is a key financial metric that evaluates a company's profitability related to its sales. It is calculated as the difference between Sales and Cost of Goods Sold (COGS), divided by Sales. This calculation effectively measures what portion of sales revenue is retained as gross profit after accounting for the direct costs of producing goods or services. The formula GPM = (Sales - COGS) / Sales shows how much profit a company makes for every dollar of sales, expressed as a percentage. A higher GPM indicates a more profitable company that has efficient production processes or pricing power, while a lower GPM may suggest issues with cost management or pricing strategy. Understanding GPM is essential for assessing a company's financial health, operational efficiency, and pricing strategy. Therefore, the correct choice accurately represents this important financial measure and how it is derived from the relationship between sales and costs.

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