Margin vs Markup Differences
Is there a difference between margin vs markup? Absolutely. More and more in today’s environment, these two terms are being used interchangeably to mean gross margin, but that misunderstanding may be the menace of the bottom line. Markup and profit are not the same! Also, the accounting for margin vs markup are different! A clear understanding and application of the two within a pricing model can have a drastic impact on the bottom line. Terminology speaking, markup is the gross profit percentage on cost prices or cost of goods sold, while margin is the gross profit percentage on selling price or sales.
Effective Ways to Optimize Profitability
So, who rules when seeking effective ways to optimize profitability?. Many mistakenly believe that if a product or service is marked up, say 25%, the result will be a 25% gross margin on the income statement. However, a 25% markup rate produces a gross margin percentage of only 20%.
NOTE: Want the Pricing for Profit Inspection Guide? It walks you through a step-by-step process to maximizing your profits on each sale. Get it here!
Markup vs Gross Margin: Which is Preferable?
Though markup is often used by operations or sales departments to set prices it often overstates the profitability of the transaction. Mathematically, markup is always a larger number when compared to the gross margin. Consequently, non-financial individuals think they are obtaining a larger profit than is often the case. By calculating sales prices in gross margin terms they can compare the profitability of that transaction to the economics of the financial statements.
(Try the calculators at the bottom of the page to discover for yourself which is better!)
Steps to Minimize Markup vs Margin Mistakes
Terminology and calculations aside, it is very important to remember that there are more factors that affect the selling price than merely cost. What the market will bear, or what the customer is willing to pay, will ultimately impact the selling price. The key is to find the price that optimizes profits while maintaining a competitive advantage. Below are steps you can take to avoid confusion when working with markup rates vs margin rates:
- Use a pricing model or pricing tool to quote sales. Have the tool calculate both the markup percentage and the gross margin percentage
- Relate gross margin percentage per sales invoice to income statement
- Organize your chart of accounts to compare gross margin rate to sales quotes
- Educate your sales force on the differences. By targeting the gross margin percentage vs the markup percentage you can throw an additional 2 – 3 percent profit to the bottom line!
Establish a Price
Still deciding whether to use margin or markup to establish a price? Easily discover if your company has a pricing problem and fix it with either margin or markup. Download the free Pricing for Profit Inspection Guide to learn how to price profitably.
Access your Strategic Pricing Model Execution Plan in SCFO Lab. The step-by-step plan to set your prices to maximize profits.
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Margin vs Markup Chart
15% Markup = 13.0% Gross Profit
20% Markup = 16.7% Gross Profit
25% Markup = 20.0% Gross Profit
30% Markup = 23.0% Gross Profit
33.3% Markup = 25.0% Gross Profit
40% Markup = 28.6% Gross Profit
43% Markup = 30.0% Gross Profit
50% Markup = 33.0% Gross Profit
75% Markup = 42.9% Gross Profit
100% Markup = 50.0% Gross Profit
(Originally published by Jim Wilkinson on July 24, 2013)