What is Gross Profit and What to Include as a SaaS Business?
When running a SaaS business, understanding Gross Profit is essential for measuring financial health and scalability. It gives insight into how efficiently your business delivers its core service before factoring in overhead costs.
What is Gross Profit?
Gross Profit is the revenue a business generates minus the direct costs associated with delivering its product or service. It represents the profitability of your core product before accounting for operational expenses like Salaries, Marketing, or Rent, likely in that order.
The formula is simple, and as follows.
Gross Profit = Revenue – Cost of Goods Sold (COGS)
But what do you include within the Cost of Goods Sold as a SaaS company?
What to Include in COGS for a SaaS Business?
Unlike traditional businesses that sell physical products, SaaS companies have a unique cost structure. Here’s what should typically be included in your Cost of Goods Sold (COGS):
1. Hosting & Infrastructure Costs
- Cloud hosting (e.g., AWS, Google Cloud, Azure)
- Database and storage services
- Content delivery networks (CDNs)
I would recommend you speak to your CTO to ascertain which of the above are Direct Costs to include within Gross Profits and which are just Development costs.
2. Third-Party Software & Tools
- APIs and integrations critical for service delivery, especially those which charge per usage
- Payment processing fees (e.g., Stripe, PayPal)
- Monitoring and security tools
3. Sales Commissions
A potentially debatable one here (actually all of these are open to debate), but you could include Sales Commissions as a Direct Cost. The issue with including at this stage is that there often is not a direct link between the Revenue charged in the month the Sales Commission is claimed. Nonetheless, the costs here would include:
- Sales Commission, only.
What Not to Include in COGS or your Gross Profit formula?
- Sales & Marketing expenses (e.g Paid Media or PPC)
- General Admin costs (e.g., Salaries, Rent, Legal)
- Research & Development (R&D) costs for future product enhancements
Why Gross Profit Matters for SaaS Businesses
A high Gross Profit margin (70-90%) is a strong indicator of a scalable SaaS business. It allows for reinvestment in customer acquisition, product development, and growth. Monitoring Gross Profit over time helps you make data-driven pricing, cost, and profitability decisions.
By correctly categorising your Direct Costs from your Operating Costs, you get a clearer picture of your business efficiency and unit economics, helping you build a more sustainable SaaS company.
This post was written by Christopher Grubb. You can find out more about me here.
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I hope the above has helped.
The role of the Finance Director does not need to be a full-time overhead for someone to be committed and make a difference to your business. My aim is to simplify the financial performance, planning and strategic positioning for SaaS and Tech businesses who just want their world to be uncomplicated and thrive.
Please feel free to message me with any comments or questions. Or find me on LinkedIn here.
