What Is Operating Margin, and Why Do Investors Watch It?

Operating margin is the share of a company's revenue that is left after paying the costs of running the business, before interest and income taxes. It tells you how much profit the core operations make on each dollar of sales.

The formula

Operating margin = operating income / revenue

Operating income is revenue minus the cost of goods sold and the operating expenses (research and development, sales and marketing, general and administrative costs). It excludes interest paid or earned, and income taxes.

A worked example with made-up numbers: a company has $1,000 million in revenue and $150 million of operating income. Its operating margin is 15%. For every $100 of sales, $15 remains after operating costs.

Why it is useful

• It isolates the operating business. Net income can be moved by a large tax change, a one-time gain from selling an asset, or how much debt the company carries. Operating margin strips most of that out.
• It shows efficiency. If revenue grows 10% but operating income grows 20%, the margin widened: each extra dollar of sales is costing less to produce.
• It allows comparison within an industry. A software company might earn a 30% operating margin and a grocery chain 3%. Neither is "better"; the business models differ. Compare a company with its peers and with its own past.

How to read a change

When a report says margin moved, ask why. The filing usually gives one of these:

• Price and mix: the company charged more or sold more high-margin products.
• Cost inflation or savings: materials, wages, or freight cost more or less.
• Operating leverage: costs that are mostly fixed (such as a factory or a software platform) do not rise with sales, so extra revenue drops through as profit.
• One-time items: restructuring charges or legal settlements can push the margin down for a single period.

Watch the definition

Some companies report an "adjusted" operating margin that leaves out items such as stock-based compensation or restructuring costs. The definition is theirs, not a standard one. Compare the adjusted figure with the reported (GAAP) one; see GAAP vs adjusted earnings.

Operating margin is also different from gross margin, which subtracts only the direct cost of making the product, and from net margin, which is net income divided by revenue. See revenue vs net income.