Margin vs Markup

The key difference between Margin and Markup is that margin refers to the amount derived by subtracting the cost of the goods sold by the company during an accounting period from its total sales. In contrast, markup refers to the amount or percentage of profits derived by the company over the product's cost price.

The first & foremost step in determining  a firm's profitability is defining its products' pricing structures. It can be realized by understanding the margin and markup, as these numbers play an important role in determining the revenues & bottom line in the financial statements.

• In simple terms, margin (more popularly known as gross margin) is revenue minus the COGS. If expressed in percentage terms, the margin percentage will be 20% (calculated as the gross margin divided by total sales, i.e., 100/500). For example, if a product sells for $500 & costs $400 to produce, its margin would be calculated as $100.
• Markup is the amount that should be added to the manufacturing cost of a product to derive the price that it should be sold at. Continuing with our above example, a markup of $100 from the cost price of $400 yields the $500 price. Or, stated as a percentage, the markup percentage is 25% (calculated as the markup amount divided by the product cost, i.e., 100/400).

As illustrated in the example above, both are different accounting terms that provide two different perspectives of looking at business profit. When expressed as a percentage of sales, it is called profit-margin but is expressed as a percentage of a cost and called Markup. These are like two sides of a coin – different & yet closely related.

Let's see the top differences between margin vs. markup.

The key differences are as follows –

#1 - How are they different?

Much like the analogy of a cup being half full or half empty, margin and markup are two different outlooks on the relationship between price vs. cost. A margin is more concerning sales, while the latter is more concerning a value derived from the manufacturing cost. Both have their significance in financial statement analysis.

• Markup ensures that you are making profits & quantifying that profit each time you sell a product.
• Markup is essential during the initial phases of business as it helps you understand the cash inflows and outflows. It can help in identifying the efficient points & the bottlenecks in the business.
• A margin is a reliable & precise way of calculating the profits & clearly highlights the impact your sales have on the bottom line.

#2 - Perspective

In absolute terms, both refer to the same numeric value. However, the perspective makes them all together with a different concept. Refer to the diagram below for our earlier example:

From the seller's view, the $ 100 value is a margin, but when viewed from a buyer's viewpoint, the same $100 is markup. However, in percentage terms, the two figures are quite different.

#3 - Relationship

These concepts can be confusing while deriving pricing and, if not investigated properly, affect your profitability. Since the reference for calculating markup is cost price, it will always be greater than the margin, the basis of which is always a higher value – selling price. As a thumb rule, the markup percentage must always be higher than the margin percentage; else, you are making losses in the business.

The markup calculation is more likely to impact pricing changes over time than a margin-based price. It is since the cost upon which the markup number is based may differ with time, or its calculation may vary, resulting in different costs, leading to different prices.

The following bullet points illustrate the differences and the relationships between the margin and markup percentages at distinct intervals:

To derive a general markup percentage, the expression would be as follows:

For example, if the manufacturing cost of a product is $100 and you want to earn a margin of $20 on it, the calculation of the markup percentage is:

$20 Margin ÷ $100 Cost Price = 20 %

If we multiply this $100 cost price by 1.20, we arrive for $ 120. The difference between the selling price of $120 and the $100 cost price is the desired margin of $20.

#4 - Which is preferable?

They try to present a different perspective on the same financial status. However, at any point in time, markup is always greater than gross margin, and hence it overstates the firm's profitability. Due to this reason, markup is most often preferred as a reporting mechanism by the sales and operations department. Any person with a non-financial background will look like a transaction is obtaining a larger profit if they are presented with Markup numbers than corresponding Margin numbers.

Understanding the relationship between margin and markup is vital for a business. Do the math wrong, and you may lose money without even realizing it. On the other hand, if done right, it can help in planning and implementing your long-term and short-term strategic initiatives like planning for more penetration in the market cross-selling to your existing customers.

This article has been a guide to Margin vs. Markup. Here we discuss the top differences between margin and markup, infographics, and a comparison table. You may also have a look at the following articles –

• Period Cost vs. Product Cost
• Unit Contribution Margin Formula
• Contribution Margin and Gross Margin Differences
• Calculate Net Interest Margin