when calculating operating margin the numerator uses a firm s earnings before interest and taxes ebit ebit or operating earnings is calculated simply as revenue minus cost of goods sold cogs and the regular selling general and administrative costs of running a business excluding interest and taxes 
for example if a company had revenues of 2 million cogs of 700 000 and administrative expenses of 500 000 its operating earnings would be 2 million 700 000 500 000 800 000 its operating margin would then be 800 000 2 million 40 if the company was able to negotiate better prices with its suppliers reducing its cogs to 500 000 then it would see an improvement in its operating margin to 50 limitations of the operating marginthe operating margin should only be used to compare companies that operate in the same industry and ideally have similar business models and annual sales companies in different industries with wildly different business models have very different operating margins so comparing them would be meaningless it would not be an apples to apples comparison to make it easier to compare profitability between companies and industries many analysts use a profitability ratio that eliminates the effects of financing accounting and tax policies earnings before interest taxes depreciation and amortization ebitda for example by adding back depreciation the operating margins of big manufacturing firms and heavy industrial companies are more comparable ebitda is sometimes used as a proxy for operating cash flow because it excludes non cash expenses such as depreciation however ebitda does not equal cash flow this is because it does not adjust for any increase in working capital or account for capital expenditure that is needed to support production and maintain a company s asset base as operating cash flow does other profit marginsby comparing ebit to sales operating profit margins show how successful a company s management has been at generating income from the operation of the business there are several other margin calculations that businesses and analysts can employ to get slightly different insights into a firm s profitability the gross margin tells us how much profit a company makes on its cost of sales or cogs in other words it indicates how efficiently management uses labor and supplies in the production process the net margin considers the net profits generated from all segments of a business accounting for all costs and accounting items incurred including taxes and depreciation in other words this ratio compares net income with sales it comes as close as possible to summing up in a single figure how effectively the managers are running a business 