There are quite a few factors to consider when opening a business. One of which is understanding the financial side of things like learning about “what is margin?” Markup and the margin definition are two of the most important numbers that a business owner or manager needs to know. They help establish pricing and drive profits.
That's why it's vitally important to know the difference between the two. A single mistake can lead to a loss in revenue or an inability to increase eCommerce sales. Familiarize yourself with restaurant profit margin to get a better understanding of what it is in the business sense.
Keep reading to learn more about what is margin, margin vs markup, how to calculate them, and how to convert numbers between the two.
What Is Margin: Margin Definition
Margin is also referred to as gross margin, and it’s the difference between the retail or wholesale price a product is sold for and the cost of goods sold COGS. Essentially, it's the amount of money that is earned from the sale. Margins are expressed as a percentage and establish what percentage of the total revenue, or bottom line, can be considered a profit.
Let's look at an example to better understand what is margin. Imagine that you're a food wholesaler who sells whole turkeys for $20 and that only cost you $10 to acquire. Your gross profit would be $10, but your profit margin percentage would be 50%. That is, you keep 50% of the sales price as the other 50% was used in buying the turkey.
How to Calculate Margin
Calculating margin requires only two data points, the cost of the product and the price it's being sold at. To get the most accurate cost for a product, you'll need to factor in all elements of the production or procurement process for that product including raw materials. Look into “what is raw materials inventory?” For the hospitality industry, it helps to use hospitality procurement software for this.
Use this formula to calculate margin:
Margin = ((Sales Price - Cost) / Sales Price) x 100
What Is Markup: Markup Definition
Markup is the amount that you increase the price of a product to determine the selling price. Though this sounds similar to the margin, it actually shows you how much above cost you're selling a product for. Like margins, markups are shown in percentage form. Think about wine markup strategies.
Let's return to our example above. You've sold a turkey for $20 that cost you $10. The gross profit is $10, which is a 100% markup. This makes sense, as the sales price is double the cost. This also means that you are selling the turkey for 100% more than you paid for it.
How to Calculate Markup
Calculating markup is similar to calculating margin and only requires the sales price of a product and the cost of the product. Certain industries are known for having average markups that few businesses go outside of, so calculating this number can help you compete.
Use this formula to calculate markup:
Markup = ((Sales Price - Cost) / Cost) x 100
Markup vs Margin
Though commonly mistaken for one another, markup and margin are very different. Margin is a figure that shows how much of a product's revenue you get to keep, while markup shows how much over cost you've sold it for.
In fact, mistaking these two numbers can lead to quite a few problems. Here are a few reasons it's important to know the difference:
Maintain Profit Margins
Since a product's markup is higher than its margin, mistaking the two can be quite costly. If you accidentally markup the price based on margin, you'll be pricing products too low. This will result in lost revenue and your margin will be much lower than planned. This can be very detrimental to your business if you've increased costs like overhead expenses or set inventory KPIs based on flawed pricing. It can also cause you to sell out of a product and end up upsetting customers who want to buy the product which turns into a backorder.
Avoid Demand Loss
Conversely, if you think your goal markup should be the margin, you can accidentally be pricing your products too high. This is very off-putting to customers and can damage your relationships as well as drive down demand for the products. Even worse, this can cause a bullwhip effect that will upset the supply and demand balance throughout your entire supply chain.
Optimize Inventory Management
Calculating the reorder point, determining the proper amount of safety stock to keep on hand, and demand forecasting all depend on understanding your margins and markups. If your numbers are flawed in any way, you can cause a backlog of work for your fulfillment team or end up with piles of dead stock or cycle stock in the warehouse. The cost of this mistake can quickly add up.
Margin vs Markup Chart
Margins and markups actually interact in an entirely predictable manner. This means you can use one to determine the other. This can be done using formulas or a calculator. You can also use a markup vs margin table to easily see this relationship for the most common rates.
To help, use this simple margin vs markup chart:
Margin vs Markup Calculator
Since margin and markup are correlated, each can be converted into the other number fairly easily. Use the formulas below to convert your numbers and get a better understanding of your pricing.
To convert markup to margin, use this markup vs margin formula:
Margin = (Markup / (1 + Markup)) x 100
To convert margin to markup, use this formula:
Markup = (Margin / (1 - Margin)) x 100
Within the Margin of Error
Calculating your margin and markup allows you to make informed decisions to establish pricing and maximize profits. Knowing the difference between markup vs margin is key to avoiding a costly mistake and will ensure you can meet customer demand.
Use the tools above for your calculations and double-check everything before moving forward. You should also check your margins and markups regularly to ensure you're getting the most out of your pricing and online marketplace presence.
Frequently Asked Questions About What Is Margin
Markup vs Margin: What’s the Difference Between Markup vs Margin?
The difference between markup vs margin is that markup refers to a number that represents how much product revenue you keep, whereas markup refers to the difference between the cost you originally paid for the product and what you sold it for. Markup and margin are used in many businesses, and it’s essential to understand the difference in order to run a business successfully.
This includes when running a restaurant business, opening a bakery, opening a food truck, opening a coffee shop, or opening a grocery store. In this case, it will be helpful to look into a restaurant profit and loss statement.
Why Is Margin Important in Business?
Margin is used in business to measure a business’ profitability after they’ve deducted their expenses from their revenue. Proper margin calculations and stock price will show you the actual business profit. This is when net profit margin will come in handy.
Why Is Markup Important in Business?
Markup is important for businesses to use because the calculation allows businesses to give themselves enough capital to cover their expenses, including overhead expenses, and make a profit. Having a markup that is too low may result in business failure instead of eCommerce growth.
Understanding margin vs markup will lead to business success, including restaurant success. It’s a brick and mortar and eCommerce marketing strategy that will give you insight into your business’s financial standing.
What Is Trade On Margin?
Trade on margin refers to businesses borrowing money from brokerage firms to conduct trades. By trading and buying on margin, investors deposit cash as collateral for the margin loan they’re receiving and pay an interest rate on the borrowed money.
What Is Maintenance Margin?
Maintenance margin refers to the minimum amount of equity that investors may have in their margin accounts following a completed purchase. In most cases, the maintenance margin is 25% of the value of securities in the margin account.
How Is Margin Used in Business or Retail?
In business and retail, margin typically refers to the difference between the cost of a product and its selling price. This is often expressed as a percentage and is a measure of profitability. For example, if a product costs $50 to produce and is sold for $100, the profit margin is 50%. Understanding and managing margins is crucial for businesses to ensure they are making a profit on their products or services.
Why Is Understanding Margin Important for Investors and Businesses?
Understanding margin is crucial for investors and businesses because it directly impacts profitability and financial stability. For investors, margin trading can enhance returns but also increases risk, so knowing how it works helps in making informed decisions. For businesses, maintaining healthy profit margins ensures they cover their costs and generate profits, which is essential for growth and sustainability.
What Is Wholesale Margin?
The term wholesale margin refers to the difference between the price at which distributors purchase goods and sell them to retailers. For example, a supplier of dairy products might purchase milk from farms at $1 and sell it to businesses at $1.20. In this particular case, the selling price is 20% higher than the purchase price. This means that the markup is 20%. But the wholesale margin is 16.67%. The wholesale profit margin should also factor in additional costs such as transportation, labor, and storage. Traditionally, wholesale margins are fairly low as wholesale distributors act primarily as intermediaries between manufacturers and retailers or other businesses. As such, they add little value and can rarely have high markups or margins.
What Is Gross Profit Margin VS Net Profit Margin?
The main difference between gross profit margin and net profit margin is that the former deducts only the cost of goods sold (COGS) from the revenue when calculating margins. The latter deducts all other expenses and shows the actual profitability of the business. Net and gross profit margins are important metrics that are often mentioned when analyzing financial statements or comparing markup vs margin. Here’s an example of how they work in the case of a wholesale distribution business. A supplier generates revenue of $1,000,000. The cost of goods sold is $850,000. That means that the gross margin is 15% when calculating with the gross profit margin formula: (revenue – COGS) / revenue. The additional operating expenses such as taxes, interest, and various others come at $80,000. If we use the formula net profit margin = (revenue – COGS – operating expenses) / revenue here’s what we get: (1,000,000 – 850,000 – 80,000) / 1,000,000 = 7% net profit margin.
The gross profit margin is used to measure the operational efficiency of a company while the net profit margin shows the actual profitability of the business.
