Gross margin is what a company keeps from each dollar of revenue after paying the direct cost of the product it sold. If a company sold a product for $100 and producing or delivering it cost $30, gross profit is $70, or 70%. From that amount the company has to fund everything else: development, marketing, sales, management salaries. What remains after all that is operating profit.
For years, software companies were investors' favorites precisely because of this number. When you sell cloud software, the cost of another customer is very low: a few more servers, a bit more support. So many software companies have gross margins of 70% to 80% or more, far above hardware, retail or services companies. A high gross margin means that as the company grows, most additional revenue can turn into profit.
AI changes that math. Every time a user asks a chatbot a question, or asks a tool like Base44 to build an app, someone has to pay for the computation: hours of expensive graphics processors, electricity and sometimes a payment to the company running the model. That means the more the user uses it, the higher the cost. This brings AI companies closer to a services model than a classic software company.
That is why investors watch AI companies' gross margins closely. Base44 is a good example: according to Wix, its gross margin was close to zero at the start of the year, meaning almost all revenue went to compute costs, and reached 58% in the third quarter, mainly thanks to a model the company built itself and lower running costs. That is a dramatic improvement, but still below classic software levels.
How to use this information? When you read about a fast-growing AI company, ask not only how much it brings in, but how much each dollar of revenue costs it. A company with growing revenue and low gross margin can grow and lose more and more money. A company that keeps raising its gross margin over time, as Base44 has over the past six months, proves it has a business and not just a popular product.
