If you sell products that you don’t manufacture, you make a living by selling them for more than you bought them for. This means you must add a “markup” to the cost of the item. Though this sounds simple, choosing how much markup to add can mean the difference between success and failure for your business.
Percentage of Cost
The term “markup” refers to a percentage of the cost of an item. For example, if an item costs you $100 and you mark it up 20 percent, the price you will sell it for is $120. That is because 20 percent of 100 equals 20, and 20 plus 100 equals 120. The way you speak or write about this is to say that you have a 20 percent markup on that product.
Choosing the Markup
You can’t randomly choose a percentage you will mark up your products. You must take into account what your competition charges for similar products, the cost of your overhead, wages you pay and the amount of profit you want. To arrive at the markup, you have to work backward from what you need to make. For example, if you buy a product for $100 and need to make at least $40 on it to pay your expenses, divide your markup amount, 40, by your cost, 100. You need a 40 percent markup on your product to succeed.
Don’t confuse markup with profit margin. Lenders, vendors and other stakeholders in your company may ask what your profit margin is. Keep these differences in mind between markup and margin. Markup is a percentage of cost. Margin is a percentage of the selling price. For example, your $140 item that cost you $100 has $40 added to it. The markup is 40 percent. Because you sold it for $140 and made $40 in profit, divide your profit, 40, by the selling price, 140. You find in this case that you have a 28.5 percent profit margin, because 40 divided by 140 equals .285. Multiply by 100 to get the percentage, which is 28.5 percent. If all your products were priced in the same way, you could say your business operates on a 28.5 percent profit margin, meaning you make 28.5 percent on everything you sell.
When you offer a discount, you take a percentage off the selling price. This percentage tells the customer how much she saves when buying the product. You could discount your $140 item by 10 percent. Ten percent of 140 is 14, so you would take off $14 and sell the product for $126. Your new markup would be 26 percent, because you made $26 on a $100 item, and 26 divided by 100 equals 26. Your profit margin, however would be the $26 you made divided by the selling price of $126, which equals 20 percent.