Many confuse profit margin and markup. Both help you set prices and measure productivity but the two terms reflect profit differently. Calculating margin and markup is key to setting prices that not only cover your expenses but also leave you with a profit. A margin shows the profit amount you make after paying all your costs. A markup shows how much more your selling price is than the amount the item costs you.
Margin
For example, a contractor sells or contracts a project for $1,150. All costs total $1,000 including labor, material, permits, equipment, etc. First, find your gross profit, or the difference between the contract ($1,150) and the cost ($1,000).
$1,150 – $1,000 = $150 gross profit
To find the margin, divide gross profit by the revenue or contract total
$150 / $1,150 = 0.13 margin or 13% margin
The margin is 13%. That means that of $1,150 contract, 13% is profit and 87% is cost.
FORMULA
Profit Margin % = One Minus (Cost Divided By Contract) or 1-(Cost/Contract)
Suppose the contractor knows his total costs are $1,000 and wants 15% profit margin.
First, find the difference between 1 and desired profit margin (15%)
1 – 0.15 = 0.85 (in decimals)
Then Divide Cost by Profit Margin Difference
$1,000 / .85 = $1,176
Revenue or Contract amount is $1,176 to make 15% profit margin
FORMULA
Revenue (Contract) = Cost Divided By (One Minus Profit) or Cost/(1-Profit Margin)
Markup
Using the example from above, contractor gets contract for $1,150. The project total costs are $1,000. First, find the gross profit.
$1,150 – $1,000 = $150 gross profit
Then divide the gross profit by the costs.
$150 / $1,000 = 0.15 markup or 15% markup
The markup is 15%. That means you got a contract for 15% more than the amount you paid in costs.
FORMULA
Profit Markup % = Profit Divided By Cost
Suppose the contractor knows his total costs are $1,000 and wants 17% profit markup.
Simply multiply Cost by Profit Markup
$1,000 x 17% Markup = $170 gross profit
FORMULA
Profit Markup = Cost Multiplied By Markup %
Margins and markups interact in a predictable way. Each markup relates to a specific margin, and vice versa. Markups are always higher than their corresponding margins.
If you know how much profit you want to make, you can set your prices accordingly using the margin vs. markup formulas.
If you don’t know your margins and markups, you might not know how to price your service correctly. This could cause you to miss out on revenue or you might be asking too much, and many potential customers are not willing to pay your prices.
Still need help with margin vs. markup? Contact us today.
