Markup and profit margin are different

Two numbers that share a word and a base

Both markup and margin describe the gap between what an item costs you and what you charge. They look at that gap from different sides, so they use different denominators.

• Markup is profit divided by cost. It answers the question: how much did I add on top of what I paid? A cost of 100 sold at 125 has a markup of 25 divided by 100, which is 25%.
• Profit margin, also called gross margin when only product cost is counted, is profit divided by selling price. It answers the question: out of each unit of money a customer pays, how much do I keep? The same item has a margin of 25 divided by 125, which is 20%.

The profit is the same in both cases: 25. The percentages differ because the base differs. Cost is smaller than price, so a given profit is a larger share of cost than of price. That is why markup is always higher than margin for the same sale, and the gap widens as the percentages grow.

The words are used loosely in everyday talk. A buyer at a shop who says a product has a 30% margin might mean either figure. In a pricing spreadsheet, a supplier quote or a conversation with an accountant, ask which base is meant. A wrong assumption can cost real money, as the examples below show.

The formulas, written out

Keep these four lines handy. Use plain numbers for cost, price and profit, with profit equal to price minus cost.

• Profit = Price − Cost
• Markup % = Profit ÷ Cost × 100
• Margin % = Profit ÷ Price × 100
• Price from a target margin = Cost ÷ (1 − margin as a decimal)

For a target markup, price is simpler: Cost × (1 + markup as a decimal). The two routes to a price do not give the same answer for the same percentage. A 30% markup on a cost of 350 gives 455, with a profit of 105 and a margin of about 23.1%. A 30% margin on a cost of 350 gives 500, with a profit of 150. The second price is 45 higher.

The profit margin calculator takes cost and price and shows margin, markup and profit together, so you can check both ratios in one place. The profit margin guide covers the calculator inputs, and the profit margin answers collect the common questions.

A conversion table you can trust

Because the two numbers are tied, you can convert one into the other. Margin equals markup divided by (1 + markup). Markup equals margin divided by (1 − margin).

From markup to margin:

• 10% markup is a 9.09% margin.
• 20% markup is a 16.67% margin.
• 25% markup is a 20.00% margin.
• 30% markup is a 23.08% margin.
• 40% markup is a 28.57% margin.
• 50% markup is a 33.33% margin.
• 75% markup is a 42.86% margin.
• 100% markup is a 50.00% margin.
• 200% markup is a 66.67% margin.

From margin to the markup you need:

• 10% margin needs an 11.11% markup.
• 20% margin needs a 25.00% markup.
• 25% margin needs a 33.33% markup.
• 30% margin needs a 42.86% markup.
• 40% margin needs a 66.67% markup.
• 50% margin needs a 100.00% markup.
• 60% margin needs a 150.00% markup.
• 70% margin needs a 233.33% markup.

Two patterns stand out. First, a margin can never reach 100%, because that would need a cost of zero, while a markup has no upper limit. Second, doubling the cost, a 100% markup, produces exactly a 50% margin. Many retailers call this keystone pricing. If your target is a 60% margin, you must charge two and a half times the cost, not one and a half times.

Five steps to price from cost without confusing the two

1. Work out the full cost per unit. Include the purchase price, inbound freight, packaging and any duties. This is your landed cost.
2. Decide which ratio your plan uses. Write the word margin or markup beside every percentage in your spreadsheet.
3. Pick the target in the form that matches your goal. If you must keep 30 out of every 100 of revenue, that is a margin target.
4. Compute the price. For a margin target, divide cost by (1 − margin). For a markup target, multiply cost by (1 + markup).
5. Check both ratios and the profit in rupees or dollars. Enter cost and price in the profit margin calculator. If the numbers do not match your plan, fix the price before you print the tag.

The costly slip: setting margin as markup

Suppose a seller wants a 40% margin and has a unit cost of 60. The easy route is to add 40% to cost: 60 × 1.40 is 84. The profit is 24, which is a margin of 24 ÷ 84, about 28.6%. The target was 40%.

The correct price for a 40% margin is 60 ÷ (1 − 0.40), which is 100. The profit is 40, and 40 ÷ 100 is 40%. The correct markup is 66.7%.

The consequence is not subtle. If the seller moves 1,000 units a month, the plan expected 40,000 of profit. At the price of 84 the shop earns 24,000. That is a gap of 16,000 a month, or 192,000 a year, before overheads. Nothing was wrong with sales or costs. The price was set with the wrong base.

The mistake runs the other way too. A buyer who is told that a supplier works on a 25% margin may assume a 25% markup on cost, and then discover the supplier’s price is higher than expected. If a supplier’s cost is 80 and they want a 25% margin, they will quote 106.67. A buyer who expected 100 sees a 6.67% surprise on every unit.

Worked example: a candle shop prices a new line

Nisha sells scented candles online. She buys a new range for 150 a unit. Shipping from the supplier adds 10 a unit. She sells through a marketplace that takes an 8% commission, plus a 2.5% payment fee on the selling price. She wants a 30% margin after those selling costs.

Inputs

• Purchase cost: 150. Inbound freight: 10. Landed cost: 160.
• Marketplace commission: 8% of price. Payment fee: 2.5% of price. Together 10.5%.
• Target margin after those selling costs: 30%.

Calculation

Step 1: the simple route. Nisha first tries a 50% markup on landed cost: 160 × 1.50 is 240.

Step 2: check it. Selling costs at 10.5% of 240 are 25.20. Profit is 240 − 160 − 25.20, which is 54.80. The margin is 54.80 ÷ 240, about 22.8%. That misses the target by more than seven points.

Step 3: the correct route. Selling costs depend on the price, so include them in the formula. Price × (1 − 0.105 − 0.30) = 160, which gives Price = 160 ÷ 0.595, about 268.91.

Step 4: check it. At 269, selling costs are 28.25. Profit is 269 − 160 − 28.25, which is 80.75, and 80.75 ÷ 269 is 30.0%.

Step 5: express the markup. Profit over landed cost is the price minus 160, which is 109, divided by 160, about 68%.

Result

A 50% markup looked generous and delivered a 22.8% margin. The 30% target needed a price near 269, which is a 68% markup on landed cost. If the market will not pay 269, Nisha has a clear choice: accept a lower margin, cut the landed cost, or drop the line. She makes the choice with the numbers in front of her, not after a month of thin results.

Why discounts bite harder than they look

A discount reduces the price, but cost stays the same. All of the discount comes out of profit. That makes margin fall faster than the discount percentage suggests.

Take an item with a cost of 100 and a price of 125, a 20% margin. Here is what each discount does:

• 5% off: price 118.75, profit 18.75, margin 15.8%.
• 10% off: price 112.50, profit 12.50, margin 11.1%.
• 15% off: price 106.25, profit 6.25, margin 5.9%.
• 20% off: price 100.00, profit 0, margin 0%.

A 20% discount on a product with a 20% margin erases the profit entirely. It is not a coincidence. If margin is measured on price and the discount is a share of the same price, a discount equal to the margin takes it to zero.

To keep the same total profit after a discount, you must sell more units. The multiplier is margin divided by (margin minus discount). At a 20% margin and a 10% discount, you need to sell twice as many units. At a 30% margin and a 10% discount, 1.5 times as many. At a 40% margin and a 10% discount, about 1.33 times as many. The thinner the margin, the larger the volume jump a discount demands.

The discount calculator shows the price after a discount, and the discount calculator guide explains how to read it. A discount that shrinks profit works through the same idea in more detail, and the discount calculator answers cover common questions.

Gross margin is not the money you keep

The margin calculated from cost and price is a gross figure. It counts only the cost of the product. A business also pays selling costs, rent, staff, software and tax. Those sit below the gross line.

Consider an item priced at 1,000 with a product cost of 600. Gross profit is 400, a 40% gross margin and a 66.7% markup. Now add the costs tied to the sale:

• Payment fee at 2% of price: 20.
• Shipping paid by the seller: 40.
• An allowance for returns and replacements at 5% of price: 50.

Profit after those items is 400 − 20 − 40 − 50, which is 290. The margin on that basis is 29%, not 40%. Overheads such as rent and wages come off next. A business with a 40% gross margin and a monthly overhead larger than its gross profit loses money, however healthy the first number looks.

That is why the price that still loses money lists the costs that people forget. And it is why you need to know your break-even volume, which turns overhead into a number of units. The guide to how many sales cover your fixed costs and the break-even calculator take that next step.

Tax-inclusive prices and the base of the ratio

If you sell in a country where shelf prices include sales tax, such as GST or VAT, the price a customer pays is not your revenue. A price of 1,180 that includes 18% tax holds 1,000 of revenue and 180 of tax, which you pass on to the tax authority.

Calculate margin on the revenue figure, not on the tax-inclusive price. With a cost of 700, profit on a net revenue of 1,000 is 300, a 30% margin. Using 1,180 as the base would give 480 of apparent profit and a 40.7% margin, which overstates the result and leaves tax in your profit figure.

To strip the tax from a price, divide by one plus the rate. Do not subtract the rate from the gross price. The GST calculator does this in both directions, and the guide to GST inclusive versus exclusive pricing explains how to tell which kind of price you have.

When to talk in markup and when in margin

Neither ratio is wrong. They are suited to different jobs.

• Markup suits the buying side. A buyer thinks in terms of cost plus a rule of thumb. Markup gives a quick way to price many items: take the cost and multiply by 1.4.
• Margin suits the reporting side. It tells you what share of each sale remains, and it compares well across products, since it has a fixed ceiling of 100%.
• Margin suits budgeting. Overheads and tax are often stated as a share of revenue. Margin uses the same base, so the figures line up.
• Commission and incentive plans are usually stated on revenue or margin. The commission calculator helps when a salesperson’s pay is a share of the sale.

A good habit is to convert at the point where the two meet. Price by markup if that is how your supplier or team works, and then convert to margin before you compare with the budget.

Pricing a whole product line, and the rounding effect

Once you know the margin you want, apply it across the range, then round to a price customers expect. Rounding changes the margin, and it is worth checking by how much.

Suppose you want a 35% margin on three items with landed costs of 75, 120 and 450. The prices from the formula are 75 ÷ 0.65 = 115.38, 120 ÷ 0.65 = 184.62 and 450 ÷ 0.65 = 692.31. Customers will see 115, 185 and 690, or more likely 119, 189 and 699. Check each rounded price:

• Item at cost 120, priced at 179: profit 59, margin 33.0%. Priced at 189: profit 69, margin 36.5%.
• Item at cost 450, priced at 699: profit 249, margin 35.6%. Priced at 679: profit 229, margin 33.7%.
• Item at cost 75, priced at 119: profit 44, margin 37.0%. Priced at 109: profit 34, margin 31.2%.

A price that ends a little below a round number can cost one to two points of margin. On an item that sells 2,000 units a year at a price of 179 instead of 189, the 10 difference is 20,000 of lost profit. Rounding up is not always possible, but make the choice knowingly and look at the margin it produces.

The same logic applies along a supply chain, where each stage adds its own markup. A wholesaler buys at 100 and adds a 20% markup, selling at 120. A retailer adds 50% and sells at 180. The retailer’s margin is 60 ÷ 180, which is 33.3%. The total markup from the wholesaler’s original cost is 80%, and the margin on the final price against that original cost is 44.4%. Ask each party which base they use before you compare notes.

Common mistakes to avoid

• Using the two words as if they meant the same thing. Write which one you mean next to every percentage.
• Pricing a margin target with a markup formula. A 40% markup delivers a 28.6% margin.
• Forgetting freight and packaging. The cost base should be landed cost.
• Ignoring selling costs that scale with price. Marketplace commissions and payment fees reduce margin every time you raise or lower the price.
• Measuring margin on a tax-inclusive price. Strip the tax first.
• Treating a discount as a small change. A 10% discount on a 20% margin cuts profit by nearly half.
• Reading gross margin as the money you keep. Overheads and returns come out next.
• Setting one markup for every product. Products with higher handling costs or return rates need a higher markup.

Checklist before you set a price

• List every unit cost: purchase, freight, duties, packaging.
• Write the landed cost per unit on one line.
• Label each target as margin or markup in your sheet.
• Convert any markup target to margin, or the reverse, using the table above.
• Compute the price from the target using the correct formula.
• Add selling costs that scale with price and solve for the price again.
• Strip any sales tax before you compute margin.
• Check the profit in money terms, not only as a percentage.
• Test a 10% discount and see what margin remains.
• Note how many extra units a discount would need to keep the same profit.
• Compare the gross margin with your monthly overheads.
• Find your break-even volume at the new price.
• Review prices every quarter, or when a cost changes.

Frequently asked questions