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Margin

  1. Margin is the percentage of revenue that remains after expenses have been subtracted.
  2. Margin is the term for the funds borrowed from a broker to buy securities in a margin account

Expanded Definition

Margin and the income statement

This is simply a percentage that comes from the income statement.

<math>Margin = \frac{Revenue - Expenses}{Revenue} * 100%</math>

Depending on what portion of the income statement you are looking at, you could be talking about gross margin, operating margin, or net margin.

Gross margin

Despite its name, there is nothing rude about this, nor does it mean the margin on 144 items.

Gross margin is the percentage of money left after cost of goods sold have been subtracted from revenue. The dollar amount is called gross profit.

<math>Gross\ margin = \frac{Revenue - COGS}{Revenue} * 100% = \frac{Gross\ profit}{Revenue} * 100%</math>

Operating margin

Operating margin is the percentage of money left after operating expenses have been subtracted from gross profit. These expenses include research & development; depreciation; and selling, general, & administrative (SG&A) which includes office rent and executive salaries. The dollar amount is called operating profit.

<math>Operating\ margin = \frac{Gross\ proft - Operating\ expenses}{Revenue} * 100% = \frac{Operating\ profit}{Revenue} * 100%</math>

Net margin

This is the percentage of money left after all expenses have been subtracted from revenue. Besides the above, this includes tax expense and interest expense. The dollar amount is called net profit.

<math>Net\ margin = \frac{Operating\ profit - All\ other\ expenses}{Revenue} * 100% = \frac{Net income}{Revenue} * 100%</math>

Margin and analysts

The various margins are closely tracked by analysts and investors in companies. If the margin begins to fall, then expenses are increasing and analysts want to know why. It could be that the cost of inventory is going up so that affects gross margin (and all the other margins, too, as it works down the income statement). If more advertising is happening, that will lower operating margin.

Ideally, the margin levels should remain flat (that is, expenses and revenue increase by the same percentage) or increase over time (as the company becomes more efficient).

This explains why stock prices often move upwards when companies announce that they will layoff workers or close a plant. The costs for those workers or that plant will disappear and the reported margins should improve, assuming, of course, that revenue doesn't drop by a proportional amount.

Margin and the broker

In certain types of brokerage investment accounts, the broker lets the investor borrow money from the broker in order to invest. This loan is called "margin."

Maintenance requirement

The amount that can be borrowed depends on the broker, on the size of the account, and the various requirements of the broker. Chief among these is the "maintenance requirement." This is the collateral that the broker requires be in your account, based on the value of your holdings. As the price of the stock you own changes, the level of maintenance requirement changes.

Margin call

If the amount of collateral goes too far down, the broker may issue a "margin call" and force you to either put more funds into the account or to sell one or more of your holdings to raise cash and pay off some of the margin. This latter can be done without your knowledge or permission (actually you give permission for this when applying for a margin account) and could be stock you would rather not see sold.

Risks of margin

It is possible to borrow too much from the broker so that when a margin call is finally made, the entire account is wiped out and the investor must sell other assets (such as their house) to repay the broker. Within Fooldom, this is probably the most recommended post, describing what happened to one investor near the end of the dot-com bubble.

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