Gross margin vs. markup: are you pricing for the profit you expect?

A price list can show a 40% markup while the accounts show a 28.57% gross margin. Both can be right.

Gross margin divides gross profit by sales. Markup divides the same difference by cost. The dollars can be identical while the percentages tell different stories.

A 40% markup is not a 40% gross margin

Consider an illustrative product with a cost of $18 per unit. Here, $18 is the complete cost of goods sold for that unit under the business's accounting policy. The example assumes one unit per order, no returns and prices excluding sales tax.

• Add a 40% markup: $18 × 1.40 = $25.20 selling price.
• Calculate gross profit: $25.20 − $18 = $7.20.
• Calculate gross margin: $7.20 ÷ $25.20 = 28.57%.

The $7.20 is the same in both calculations. It is 40% of the $18 cost and 28.57% of the $25.20 selling price.

To price for a 40% gross margin, divide cost by the portion of the price available to cover that cost: $18 ÷ (1 − 0.40) = $30. At $30, gross profit is $12, gross margin is 40%, and markup is 66.67%.

The general formulas are:

• Gross margin %: (net sales − cost of goods sold) ÷ net sales × 100.
• Markup %: (selling price − cost) ÷ cost × 100.
• Price for a target gross margin: unit cost ÷ (1 − target margin expressed as a decimal).

A target margin is an input to your pricing decision; it does not establish what customers will pay.

What happens when you offer 10% off?

Suppose you sell that $30 product for $27. The $18 product cost has not changed. Gross profit falls from $12 to $9, and gross margin falls to 33.33%.

Now look at the costs of making the sale. In this illustration, fulfillment costs $4 per order and payment processing costs 4% of the selling price. The product, fulfillment and processing costs are the only variable costs assumed here.

• At $30: $30 − $18 − $4 − $1.20 = $6.80 contribution per order.
• At $27: $27 − $18 − $4 − $1.08 = $3.92 contribution per order.

The $3 discount reduces contribution by $2.88 because the processing fee falls by $0.12. You would need about 73.5% more orders to generate the same total contribution, assuming the costs, order size and capacity remain unchanged. For example, 100 full-price orders contribute $680; 174 discounted orders contribute $682.08.

The promotion now needs a sales plan: where those additional orders will come from, and whether you can fulfill them at the assumed cost.

Gross margin, contribution and cash answer different questions

Gross profit deducts cost of goods sold. Contribution deducts all variable costs, including variable selling costs. What remains must cover fixed costs before there is operating profit.

For a manufacturer, cost of goods sold can include allocated fixed production overhead. Do not treat the entire reported unit cost as variable without checking its components.

Neither margin calculation tells you when the cash arrives. A profitable wholesale order can still require supplier payments before the customer pays. Put the payment dates beside your pricing analysis.

Before you change the price

1. Check the cost. Use the cost of the units sold, including applicable freight, duties and production costs. See our inventory and cost of goods sold guide.
2. Check the selling price. Use the amount after discounts and allowances. Keep sales tax collected for the taxing authority out of sales.
3. List the costs of each order. Include variable advertising, commissions, fulfillment and expected returns where relevant. Avoid counting a cost twice.
4. Check what remains. Compare total contribution with fixed costs, then assess the cash needed to carry out the plan.

Two common pricing questions

Is a 50% markup the same as a 50% margin?

No. With a $20 cost, a 50% markup gives a $30 price and a 33.33% gross margin. A 50% gross margin requires a $40 price.

What is a good margin for my business?

Start with your costs, channels, customer expectations and sales volume. A percentage that works for another business may leave yours short of the money needed to cover its expenses.

Pricing analysis with Beamarc

A supplier increase, a promotion or a new sales channel can change what each order contributes. Beamarc can work through those changes with you, using product costs, selling fees and sales records. Product margin analysis and pricing scenarios can be scoped alongside your existing bookkeeper.

Explore Beamarc's CPG and eCommerce accounting services or request a consultation. Scope, responsibilities and fees are agreed before work begins.