The exact mechanism of action of metformin is uncertain, despite its known therapeutic benefits. It appears to act mainly by reducing hepatic gluconeogenesis, but it also decreases absorption of glucose from the gastrointestinal tract and increases insulin sensitivity by increasing peripheral utilization of glucose. The 'average' person with type 2 diabetes has three times the normal rate of gluconeogenesis; metformin treatment reduces this by over one third.

A 2001 study showed that metformin stimulates the hepatic enzyme AMP-activated protein kinase (AMPK), which plays an important role in the metabolism of fats and glucose. The molecular targets with which metformin directly interacts remain elusive.