The selling price that still loses money

Busy, selling, and still short

A product costs 400 to buy. You sell it for 500. The gap is 100, which is 20% of the price. It looks like a win.

Then the month ends. The payment company took its share. Boxes and tape ran out and were bought again. A few parcels came back, and the refunds went out in full. Part of the rent went to the shelf that holds the stock. The ads that brought the buyers cost money too. You were busy all month and ended up short.

This is one of the most common ways small businesses lose money without noticing. Each step is small. The total is not.

The problem is a mix-up between two numbers:

• The gross gap. Price minus the purchase cost of the item. It is easy to see and it flatters you.
• The real gap. Price minus every cost that rises with each sale, minus a fair share of the costs you pay anyway.

A sensible way to fix it is to sort costs into two groups first, then test the price against both. The profit margin calculator shows the margin on the price. The break-even calculator shows how many sales cover the fixed costs. The full profit margin answers and the break-even answers explain each field.

Variable costs and fixed costs

Every cost in a small business falls into one of two groups.

Variable costs rise and fall with each sale. If you sell nothing, you pay nothing. Examples:

• The purchase or production cost of the item.
• Payment processing fees, usually a percentage plus a small fixed fee.
• Packaging, labels and inserts.
• Shipping that you pay, not the customer.
• Sales commission or marketplace fees.
• Refunds, replacements and the cost of handling returns.
• Advertising that you can tie to a sale, such as cost per order.

Fixed costs arrive whether you sell ten items or ten thousand. Examples:

• Rent, storage and utilities.
• Software subscriptions and tools.
• Salaries or your own pay.
• Insurance and licences.
• Accounting fees.
• Equipment, loan payments and depreciation.

The difference matters because the two groups work in two different tests. Variable costs decide whether each sale makes a contribution. Fixed costs decide how many sales you need. A price can fail either test.

The money left after variable costs is called the contribution. It is what each sale contributes towards the fixed costs and, after that, towards profit.

Contribution per unit = price − variable cost per unit

The per-sale costs people forget

The cost of goods is the one number everyone knows. The list below holds the ones that go missing. Add each to your sheet as a cost per sale.

1. Payment fees. Often 2% to 3% of the sale plus a small fixed amount. On a price of 500, a 2.5% fee is 12.50.
2. Packaging. A box, filler, tape, a label and a thank-you card can easily reach 10 to 25.
3. Shipping you absorb. "Free shipping" is a cost. If the courier charges 60 and the buyer pays 35, you pay 25.
4. Returns and refunds. If 5% of orders come back and each return costs you 400 in lost value and shipping, the average cost per sale is about 20.
5. Marketplace or platform fees. Some take 10% to 20% of the price, plus fees on shipping and ads.
6. Advertising cost per sale. If you spend 3,500 on ads and get 100 orders, that is 35 per order.
7. Breakage, theft and expiry. Stock that you cannot sell still has to be paid for.
8. Taxes you do not pass on. In some places a sales tax or GST is part of the price. If it is, it is not your income.
9. Discounts and coupons. A code that takes 10% off changes every number above. The discount article covers this in detail.
10. Your own time. For a service or a handmade product, time is a real cost, even when you do not pay yourself a wage on paper.

Add each item as a cost per sale or as a percentage of the price. Do this once for each product. The result is rarely close to the purchase cost, and the gap tells you how much you have been giving away.

Margin and markup are not the same thing

Many price mistakes start with two words that sound alike.

• Markup is the profit as a percentage of the cost. (Price − cost) ÷ cost.
• Margin is the profit as a percentage of the price. (Price − cost) ÷ price.

For a cost of 400 and a price of 500, the profit is 100. Markup is 100 ÷ 400 = 25%. Margin is 100 ÷ 500 = 20%.

The two figures are never equal, and they drift apart as the percentage rises. Here is how they convert.

• A markup of 25% is a margin of 20%.
• A markup of 50% is a margin of 33.3%.
• A markup of 100% is a margin of 50%.
• A margin of 30% is a markup of 42.9%.
• A margin of 40% is a markup of 66.7%.

The usual error is to add a markup when you meant to reach a margin. A shop owner who wants a 40% margin and adds 40% to the cost lands at a 28.6% margin. On a 400 item, the correct price for a 40% margin is 400 ÷ 0.6 = 667. Adding 40% gives 560. The difference is 107 per item.

The guide on markup or margin lays out the formulas side by side. Bank, tax and investor conversations usually use margin. Price lists often use markup. Know which one you are using each time.

What the same product looks like at three prices

Take the 400 product. Assume these variable costs per sale: a 2.5% payment fee, 15 for packing, 25 for shipping, 20 for returns and refunds, and 35 of advertising. Fixed costs are 6,000 a month.

• At a price of 500. The fee is 12.50. Total variable cost is 400 + 12.50 + 15 + 25 + 20 + 35 = 507.50. Contribution is minus 7.50. Each sale loses money. No number of sales covers the fixed costs.
• At a price of 560. The fee is 14. Total variable cost is 509. Contribution is 51, which is 9.1% of the price. Break-even is 6,000 ÷ 51 = about 118 sales a month.
• At a price of 600. The fee is 15. Total variable cost is 510. Contribution is 90, which is 15% of the price. Break-even is 6,000 ÷ 90 = about 67 sales a month.

A 20% rise in price, from 500 to 600, changes the business from a loss on every sale to a profit of 90 on every sale. The price rise of 100 added 97.50 to the contribution, because the extra price barely changes the costs.

This is why small price changes matter more than small cost changes. Saving 2 on packing and adding 2 to the price both lift each sale by about 2. The difference is range. Many products can take a price rise of 5% or 10%, which is 25 to 50 on a price of 500, while packing rarely has 25 left to cut. Check both levers, but start with the price.

Work from cost to price

Most people set a price by looking at competitors or by adding a round number to cost. A better habit is to find the price that gives the margin you need.

The formula, when some costs are a percentage of price and some are fixed amounts, is:

Price = fixed amounts per sale ÷ (1 − percentage costs − target margin)

For the same product, the fixed amounts per sale are 400 + 15 + 25 + 20 + 35 = 495. The only percentage cost is the 2.5% fee. Suppose you want 20% of the price left after all of those costs.

Price = 495 ÷ (1 − 0.025 − 0.20) = 495 ÷ 0.775 = about 639.

At a price of 639, the fee is 16, the contribution is 639 − 511 = 128, and 128 is 20% of the price. Fixed costs of 6,000 then need about 47 sales a month.

That price may be higher than the shelf next to yours. If so, you have four options: cut a cost, change the product mix, accept a lower margin knowingly, or find a customer who values what you offer. Selling at a loss to match a competitor is not one of them, unless it is a short, planned tactic with an end date.

Spreading fixed costs over the sales you really make

Fixed costs of 6,000 a month look different at different volumes.

• At 50 sales, fixed costs add 120 to each unit.
• At 100 sales, 60 a unit.
• At 300 sales, 20 a unit.
• At 1,000 sales, 6 a unit.

Some owners spread fixed costs over the sales they hope for. If you hoped for 300 and sold 100, each unit carries 40 more than the plan. Use last month's real sales, or the lowest of the last three months, when you spread.

The guide on sales needed to break even shows the break-even formula with simple examples. The core idea is this:

Break-even units = fixed costs ÷ contribution per unit

If contribution is zero or negative, there is no break-even. Fix the price or the cost first.

Discounts, coupons and free shipping

Every promotion lowers the contribution. A 10% discount on a price of 600 is 60. If the contribution was 90, it is now 30, and the break-even rises from 67 sales to 200. A discount that "only" cuts 10% of the price here cuts two-thirds of the contribution.

The check is quick. Before any sale, take the discount amount and compare it with the contribution. If the discount is larger than the contribution, each sale loses money. Run both numbers through the discount calculator and then through the margin tool with the sale price. The article on a discount that quietly shrinks profit works through a longer example.

Free shipping is a discount too. A free shipping offer above a minimum order can be a good tool if the order value rises enough to cover the shipping. Check the numbers on a typical basket before you offer it.

If you sell time, not products

Freelancers and small service firms face the same problem under a different name. The hourly rate you quote is not the hourly rate you earn.

Say you charge 30 an hour. In a month you can bill perhaps 100 of your 160 working hours. The rest goes to sales calls, admin, revisions and gaps. Your effective rate on all hours is 30 × 100 ÷ 160 = 18.75. Subtract tools, taxes, insurance and your own downtime, and the real number is lower still.

To price a service, take the monthly income you need, add the business costs, divide by the hours you can truly bill, and then add a margin for the gaps. The break-even logic is identical: the billable hours are your units, and the hourly rate less direct costs is your contribution.

Six steps to test any price

1. List every cost for one unit. Use the ten-item list above. Mark each as a fixed amount or a percentage of price.
2. Add them to find the variable cost per sale. Include the cost of goods.
3. Subtract from the price to find the contribution. If it is negative, stop and fix the price or the costs.
4. Divide your monthly fixed costs by the contribution to find the break-even sales.
5. Compare the break-even with real sales. Use the lowest of the last three months.
6. Set the price for the margin you need with the formula above, then check what the market will bear.

Repeat for each product. A shop often carries a few items that earn well and a few that quietly lose money. Without the sums, you cannot see which are which.

Worked example from start to finish

Sara sells a handmade candle set online. She buys the materials and makes each set for 400 in cost. She sells it for 500 and thinks she earns 100 a set.

Frequently asked questions