Understanding Margin and Markup

What is margin vs markup?

Some integrators may look at their markups and their margins, and think they’re the same. But there is a key difference.

Margin

Margin refers to gross profit as a percentage of revenue, or sale price. So, if we look at cost of goods sold (COGS) and our sales price, we might have the following formula:

Item cost = $325

Selling price = $500

Gross profit = $175.

175 (gross profit) / 500 (selling price) = 0.35, or 35%. This would give us a gross margin of 35%.

Markup

Markup, meanwhile, represents gross profit as a percentage of costs to be added on. So, we can take the above calculation and use it to find the markup:

175 (gross profit) / 325 (item cost) = 0.538, or 54%.

It’s clear to see why confusing the two can make such a difference. In this case, 54% is considerably larger than 35%, and without using this markup calculator, we could incur business risks.

How to calculate margin from markup

Knowing these two metrics, we can now calculate margin from the markup. This margin formula tells us how:

Margin = (Markup/(1+Markup)) x 100.

So for example, if we had a cost price of $325 with a markup of 54%, we would have:

(0.54/(1+0.54)) x 100 = 35% margin. Calculating markup and vice versa gives us a better view of our overall financial health. In turn, we may make long-term decisions about our pricing strategy or consider alternative suppliers if the cost  of a product is too high.

To put it in simpler terms, business owners can think of the link between markup and margin as two evenly sized blocks. One block would represent the cost of the product (for example, the equipment) and one the installation. Then we can add a third block to increase the total sum by 50%, known as the markup. However, the true margin percentage is 33% as this now makes up one-third of the total sum.

It's important not to confuse these, otherwise we may set targets for a desired profit margin based on inaccurate calculations.

Gross profit and markup: why it matters

An accurate markup and margin calculator could be the difference between a successful and failing home integration business. For example, we need to know the gross profit margin for every project (total revenue minus cost of goods sold) to forecast future installations.

If proposals are only prepared with the set prices and not converted to estimated costs or budgets, we may not always understand where we’re making losses. A small business needs full visibility or can risk underpricing, due to confusing markup percentage with margins. 

As seen from our previous calculations, each project could lose a huge amount of money if the markup formula is incorrect. Calculating margin from markup is essential not just to avoid risks, but to plan for long-term business continuity.