Finance: Mark ups and margins - the difference

If you retail, wholesale or sell any products, you'll know that you make your money only by marking up your products to take a margin off every sale.

But every so often I hear about businesspeople who don't know the difference between a mark-up and a margin. This can cause financial problems - they often think they are making more profit than they actually are.

If you're going to be successful, it is important to understand your pricing. Mark-up is what you put on top of the price you paid for the goods you are selling. For example, if you buy a box of goods from your supplier for $50 and put a 100 per cent mark up on it, you'll sell it for $100. But your margin on that sale is only 50 per cent or $50. ($100 minus the purchase price of $50 leaves $50: 50 per cent of the sale price.)

A 75 per cent mark-up yields a 42 per cent margin and a 50 per cent mark-up results in just a 33 per cent margin. People are often surprised at how little the margin turns out to be on what seems a significant mark-up.

For some businesses, not pricing products with an adequate mark-up, and thus margin, can seriously derail financial success. But if your mark-up is too high, with the expectation of an extravagant margin, you may not be able to sell your products because your customers may find they can get them cheaper elsewhere.

So, how do you set your sales price?

First, you'll need to consider the demand for your item. If your item is to be moved quickly, easily and in bulk you might be happy with a lower margin because you are selling a high volume. You'll need to take into consideration the amount of time and costs you incur in selling a product. Make sure you know exactly what all your costs are and what percentage of each sales dollar they represent. This could include things like rent, wages and other overheads. You will need to preserve some margin to cover these costs and will need to factor in a bit extra to ensure you profit from your business, as well.

A formula to work out your sales price relative to a desired margin is: Cost divided by (100 per cent minus the desired gross margin percentage) = sales price. For example, if I wanted to find out what my sales price would be on an item that cost me $150, with a 30 per cent margin, the formula would be: 150/100 per cent-30 per cent= $214.28

The Waikato Business Benchmarking Survey is a useful tool to gauge where your margins sit, compared to the rest of the industry. Most accountants have this information - regulatory bodies and other associations in your industry can also provide information.