Gross Profit Yield

Gross profit yield divides gross profit by enterprise value. It combines a profitability signal (gross profit) with an enterprise-level valuation denominator, creating a metric that captures both cheapness and quality in one number.

Robert Novy-Marx demonstrated in his 2013 paper "The Other Side of Value" that gross profitability (gross profit / total assets) is a powerful predictor of stock returns, rivaling the book-to-market value factor. Gross profit yield extends this insight by using enterprise value instead of assets.

The logic is that gross profit sits high on the income statement and is less distorted by management decisions about overhead allocation, depreciation, and tax strategy. It captures the economic engine of the business before corporate structure affects the numbers.

Higher gross profit yield indicates a more profitable business at a cheaper enterprise valuation. This metric effectively screens for cheap quality - stocks that are both inexpensive and fundamentally strong.

Gross profit yield can be thought of as a blend of the value factor and the profitability factor. Stocks ranking high on both dimensions have historically outperformed either factor alone.

When comparing two stocks at similar EV/EBITDA multiples, the one with higher gross profit yield has a stronger underlying economic engine and may be a better long-term holding.

Software and pharmaceutical companies tend to show high gross profit yields because of inherently high gross margins (60-90%). Capital-intensive manufacturers and commodity businesses show lower gross profit yields.

Gross profit yield is particularly useful for cross-sector comparisons because gross profit is measured before overhead and capital structure effects. It creates a more level playing field than metrics based on net income or EBITDA.