Margin vs. Markup: Understanding The Difference & How To Calculate (With Examples)

For business owners, or employees working in the finance department, understanding the difference between a margin and a markup is absolutely essential.

Unfortunately, many business owners don’t know the difference between these two accounting terms and incorrectly use them interchangeably.

Confusing the terms or lacking the knowledge to properly calculate them can result in a price-setting that is too high or too low. That means lost sales, which means lost profits.

In essence, not understanding the difference between a margin and a markup and not knowing how to calculate either will negatively impact your bottom line.

If you want to set the right goals for your business and properly set the prices for the products or services you sell, you need to know the difference between these two terms. And you need to know the proper formulas for calculating each result.

Why are these two terms so easily confused? Well, they’re essentially two sides of the same coin.

Understanding the Terms Margin and Markup

First, to have an understanding of either term, we need to define the related terms.

For both margin and markup, you will first need an understanding of the terms: revenue, cost of goods sold (COGS), and gross profit.

1. Revenue. In business, revenue refers to the total amount of income a company has earned after the products, or services, have been sold. Sometimes referred to as “gross sales,” this calculation will sit at the top of the income statement.

   Revenue is calculated before any deductions or expenses have been taken out. “This refers to the income earned after products or services are sold.

2. Cost of goods sold (COGS). The cost of goods sold, or COGS or cost of sales refers to all of the business expenses that are generated while manufacturing or acquiring the goods being sold. This calculation will only take direct costs into account, ignoring any indirect costs.

   To calculate the cost of goods sold (COGS), you will need to know your beginning inventory, the cost of goods, and the ending inventory.

3. Gross profit. Gross profit refers to the company’s profits after the cost of goods sold has been removed. It is calculated by subtracting the cost of goods sold (COGS) from revenue.

Margin vs. Markup: The Difference

Both margin and markup are accounting terms used by businesses. Both calculations involve the same inputs, using revenue and cost of goods sold (COGS). Both analyze the same transaction.

But, the results they yield are not the same. And they each provide different actionable information.

In the simplest of terms, a business’ margin will show the relationship between gross profit and revenue, while the markup will show the relationship between gross profit and cost of goods sold (COGS).

Both terms revolve around a company’s profits but relay different information. Neither requires significant mathematical skill, but both metrics are very important for your business.

1. Margin. Profit margin and gross profit are nearly the same calculation. The difference is that gross profit is a monetary value, and profit margin is a percentage or ratio. So, the margin is the percentage of revenue that is gross profit.

   The margin will show a company’s profit as it relates to sales price or generated revenue. This is the behind-the-scenes number as it relates to the business and its profitability and financial health.

   Margins need to be high enough for a company to cover its expenses and turn an acceptable profit.

2. Markup. The markup, while still closely related to profit, focuses more on pricing strategies for the goods or services being sold. It is the difference between the cost of an item and the selling price. It will help to determine the amount of revenue being made on a specific item.

   The markup will show a company’s profit as it relates to costs. This is a customer-facing number that plays a role in price setting. It can be expressed as a percentage of the selling price or as a dollar amount.

   Markups need to be high enough to cover overhead and allow for the company to turn an acceptable profit.

Margin vs. Markup: How They Interact

Both of these calculations are important for a business’s profitability and, thus, financial health. While they are separate calculations and should be treated separately, they also relate very closely.

Both margin and markup need to be high enough to ensure that the company can cover its overhead costs and turn a profit.

They also directly relate to each other. Markup and margin, as well as some other calculations, are required to set prices for the products or services being sold.

If you want to attain a certain profit margin for your business, then you need to markup product costs by a percentage that is greater than the margin percentage.

Many companies will utilize a margin vs. markup chart to track this information and make adjustments accordingly.

How to Calculate Margin

A margin, sometimes referred to as a profit margin or a gross profit margin, is generally depicted as a percentage. Though, it can be depicted as a dollar amount.

To calculate gross profit margin, you would first need to determine the gross profit. As mentioned above, gross profit is calculated by subtracting the cost of goods sold (COGS) from the net sales (or revenue).

In formula form, this looks like this:

Gross Profit = Net Sales – Cost of Goods Sold (COGS)

To determine the gross profit margin, you would then take the gross profit and divide it by net sales (or total revenue).

The formula for gross profit margin is as follows:

Gross Profit Margin = Gross Profit / Net Sales

You may also see this written out as:

Gross Profit Margin = Net Sales – Cost of Goods Sold (COGS) / Net Sales

Or:

Gross Profit Margin = Revenue – Cost of Goods Sold (COGS) / Revenue

Since gross profit margin is most often depicted as a percentage, you would need to convert the result of the above formula to a percentage by multiplying it by 100.

In formula form, this would look like this:

Gross Profit Margin = Net Sales – Cost of Goods Sold (COGS) / Net Sales x 100

This metric is not only important for pricing strategy and determining profitability; it is an important metric for determining a company’s financial performance and overall financial health.

If a business is not making money, then it is not successful. Gross profit margin can help to determine how successful a company is at any given time.

To break out the calculation step by step, see below:

1. Step 1: Calculate gross profit: Gross Profit = Net Sales – Cost of Goods Sold (COGS)

2. Step 2: Calculate gross profit margin: Gross Profit Margin = Gross Profit / Net Sales

3. Step 3: Convert gross profit margin to a percentage: Gross Profit Margin x 100

Example Answer: Gross Profit Margin Example

Let’s say your business has sold $150,000 this quarter with a cost of goods sold (COGS) of $80,000. Following the steps above, we can determine the gross profit margin.

1. Step 1: Gross Profit = Net Sales – Cost of Goods Sold (COGS)

   Gross Profit = $150,000 – $80,000
   Gross Profit = $70,000

2. Step 2: Calculate gross profit margin: Gross Profit Margin = Gross Profit / Net Sales

   Gross Profit Margin = $70,000 / $150,000
   Gross Profit Margin = .46

3. Step 3: Convert gross profit margin to a percentage: Gross Profit Margin x 100

   Gross Profit Margin % = .46 x 100
   Gross Profit Margin % = 46%

This calculation can be done on a smaller scale as well, focusing on an individual product. Let’s say we have a product selling for $250 with a cost of goods sold (COGS) of $75.

1. Step 1: Gross Profit = Net Sales – Cost of Goods Sold (COGS)

   Gross Profit = $250 – $75
   Gross Profit = $175

2. Step 2: Calculate gross profit margin: Gross Profit Margin = Gross Profit / Net Sales

   Gross Profit Margin = $175 / $250
   Gross Profit Margin = .7

3. Step 3: Convert gross profit margin to a percentage: Gross Profit Margin x 100

   Gross Profit Margin % = .7 x 100
   Gross Profit Margin % = 70%

How to Calculate Markup

Both a margin and a markup analyze the profit made after the sale of a product or service. They differ in what they focus on. A margin focuses on the revenue of that sale, while a markup focuses on the cost.

A markup is an extra amount that a retailer adds to the cost of production when determining the customer-facing price of a product or service. Just like a margin, markup can be depicted as both a dollar amount or a percentage.

The markup is simply the difference between the selling price and the cost of goods.

In formula form, this looks like this:

Markup = Gross Profit / Cost of Goods Sold (COGS)

Or:

Markup = Net Sales – Cost of Goods Sold (COGS) / Cost of Goods Sold (COGS)

To convert the result to a percentage, you would simply multiply by 100.

As we did for gross profit margin, let’s break out the calculation step by step:

1. Step 1: Calculate gross profit: Gross Profit = Net Sales – Cost of Goods Sold (COGS)

2. Step 2: Calculate markup: Markup = Gross Profit / Cost of Goods Sold (COGS)

3. Step 3: Convert the markup to a percentage: Markup x 100

To further display the difference between margin and markup, let’s use the same example as we did above. We have a product selling for $250 with a cost of goods sold (COGS) of $75.

1. Step 1: Gross Profit = Net Sales – Cost of Goods Sold (COGS)

   Gross Profit = $250 – $75
   Gross Profit = $175

2. Step 2: Calculate markup: Markup = Gross Profit / Cost of Goods Sold (COGS)

   Gross Profit Margin = $175 / $75
   Gross Profit Margin = 2.3

3. Step 3: Convert gross profit margin to a percentage: Gross Profit Margin x 100

   Gross Profit Margin % = 2.3 x 100
   Gross Profit Margin % = 230%

The same product has a margin of 70% and a markup of 230%. While they both use the same values in their formulas, the result is staggeringly different. You can see why confusing them could cause problems.

Markups will always be higher than the corresponding margins.

Margin vs. Markup Chart

Every time you adjust the markup, you change the margin. You need to know and understand both metrics and how they relate to each other in order to determine the pricing for your products.

A margin vs. markup chart can help to further demonstrate the relationship between these two metrics. If you set a profit margin goal, you can utilize a chart like this to help you reach that goal.

Author

Samantha Goddiess

Samantha is a lifelong writer who has been writing professionally for the last six years. After graduating with honors from Greensboro College with a degree in English & Communications, she went on to find work as an in-house copywriter for several companies including Costume Supercenter, and Blueprint Education.