Gross Margin Return on Investment (GMROI)

Gross margin return on investment (GMROI), also known as gross margin return on inventory investment (GMROII), is a profitability metric typically applied to evaluate retail businesses. This metric measures the gross profit earned per dollar spent on inventory.

In this article, we will help you calculate GMROI, interpret what it reveals about a company’s operational efficiency, and understand how this key metric influences startup valuations.

What is GMROI?

GMROI can signal the level of price competition in a particular industry.

If an industry has a high GMROI, it suggests that, while making purchasing decisions, customers are placing more weight on factors other than price, such as quality, brand, and additional features.

In contrast, if an industry has a low GMROI, that is probably because there is little to no meaningful variation in product configurations. As a result, buyers always choose the lowest bidder, gradually eroding the margin.

Formula and Components

The formula for Gross Margin Return on Investment (GMROI) is as follows:

• Gross Margin Return on Investment GMROI=Gross profit/Average inventory cost

Here, gross profit and average inventory cost are calculated as:

• Gross profit=Revenue- Cost of goods sold (COGS)
• Average inventory cost=Current inventory+Previous inventory/Number of periods

What is a good GMROI?

A GMROI above 1 indicates that the business is earning more gross profit than the cost of inventory itself. You may consider this as a high and appealing GMROI, but in certain businesses, a GMROI between 2 to 3 is a desirable target.

A good GMROI depends heavily on the product type and market dynamics.

If the product is homogeneous and there is high competition, capturing a sustainable market share when operating at scale requires aggressive marketing and advertising. Since this is true for retail businesses, GMROIs in excess of 3 are desirable in this industry.

If such businesses do not have a high GMROI, they are unlikely to have any profits left over after subtracting operating expenses.

The following table will help you put context to numbers when you are analyzing GMROIs.

GMROI	Interpretation	What does it mean for your company?
Lower than 1	You generate less than $1 gross profit for every $1 in inventory cost	To break even after operating expenses, your non‐inventory costs must be very low Limited ability to compete based on price through time-bound discounts or price cuts
Higher than 1	You generate more than $1 gross profit for every $1 in inventory cost	A higher GMROI means more cushion to absorb overheads, marketing, and other operating costs. Allows for more flexibility to discount, invest in growth, or bear supply fluctuations.

Note: The GMROI of seasonal or cyclical businesses can show high deviation. In peak seasons when the inventory fully sells out, the GMROI will be artificially inflated.

How do GMROIs impact valuations?

For startups with physical products, GMROI can be a crucial indicator of scalability and risk in the following manner:

Low GMROI

The smallest supply shock will negatively impact the overall profitability and valuation

Example – CableMart is a retailer that offers simple electronics such as charging cables in a saturated market. Its financial information is as follows:

• Revenue – $150,000
• COGS – $120,000
• Average Inventory Cost – $100,000

Gross Profit = Revenue – COGS = 150,000 – 120,000 = 30,000

GMROI = Gross Profit / Average Inventory Cost = 30,000 / 100,000 = 0.3

CableMart can make less than 30 cents on every dollar that it spends on stock. This is low GMROI, that is, slim margins and reduced flexibility to cover unforeseen expenses.

Higher GMROI

More headroom to absorb cost shocks, and scaling will enhance overall profitability. All else equal, the startup with a higher GMROI will attract a higher valuation.

Example – GlowSkin Co. is a high-end skincare product that sells exclusive products and has a loyal customer base. Its financial information is as follows:

• Revenue – $200,000
• Cost of Goods Sold (COGS) – $100,000
• Average Inventory Cost – $50,000

Gross Profit = Revenue – COGS = 200,000 – 100,000 = 100,000

GMROI = Gross Profit / Average Inventory Cost = 100,000 / 50,000 = 2.0

GlowSkin Co. makes a $2 gross profit on every dollar spent on inventory. It is a high GMROI, with excellent pricing power and effective inventory utilisation.

How to find out the GMROIs of listed companies?

Unfortunately, GMROIs are not tracked by most stock screeners and must be calculated manually in the following manner:

• Locate the company’s financial statements – Typically, you can find a listed company’s financial statements with a Google search for its latest Form 10-K. For instance, if you want to calculate Walmart’s GMROI, search for ‘Walmart Form 10-K’.
• Navigate to the consolidated statement of income and balance sheet – Click on the ‘Financial Statements and Supplementary Data’ heading in the table of contents. This should take you to another table of contents with links to different types of financial statements.
• Calculate the gross profit – From the consolidated statements of income, subtract the cost of sales from total revenues to arrive at the gross profit. In Walmart’s case, the gross profit for the fiscal year ending in January 2025 can be calculated as:
  • Gross profit = $680,985 million – $511,753 million = $169,232 million or $169 billion
• Calculate the average inventory – From the consolidated balance sheets, take the inventory values for the current and previous fiscal years, then find their average. Continuing the example, Walmart’s average inventory can be calculated as:
  • Average inventory = ($56,435 million + $54,892 million) ÷ 2 = $55,663.50 million
• Calculate the gross margin return on investment (GMROI) – Now, you simply need to divide the gross profit by the average inventory. Walmart’s GMROI can be calculated as:
  • Gross margin return on investment = $169,232 million ÷ $55,663.50 million = 3.04

This means Walmart earns approximately $3.04 in gross profit for every $1 invested in inventory. Such performance reflects disciplined inventory management and cost efficiency that enable rapid turnover and robust margins. These are important advantages in the highly competitive retail sector.

For more accurate results, you can use multi-year averages if inventory fluctuates a lot.

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Gross Margin Return on Investment (GMROI) is often overlooked by investors, yet it provides powerful insights into a company’s efficiency and market position. It helps you understand a firm’s competitive landscape, pricing power, and scalability potential.

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