Every smart business owner knows they have to price their products above what it cost to acquire them to realize a profit. The difference between how much a customer pays for an item and how much it cost the seller to make or acquire is revealed in the markup percentage. There's no one-size-fits-all markup percentage — many factors are involved in its determination, including the type of industry, how much competitors are charging and what is being sold. Understanding the best way to apply a markup is an important step toward improving a business's profitability.
What Is Markup Percentage?
Markup percentage measures the gap between what an item costs the seller and the price charged to the end customer. The higher the markup, expressed as a percentage of the cost, the more a company makes. For example, if an item costs a business $5 to produce and it sells it for $8, the extra $3 — its gross profit — represents a 60% markup percentage. (More on how to calculate markup percentage soon.)
Markup percentage vs. gross profit margin:
Markup percentage and gross profit margin (or gross margin) are related concepts that measure the same thing in different ways. While markup percentage expresses gross profit (revenue minus cost) as a percentage of the cost, gross profit margin expresses gross profit as a percentage of the price. In other words, the markup percentage answers the question, “How much higher is the price than the cost, percentage-wise?” while the gross profit margin addresses the question, “What fraction of the price is gross profit?” If you know either the markup percentage or the gross margin, you can also calculate the other measure.
- Markup percentage is the ratio of a product's gross profit to its cost.
- It's most useful for businesses with physical products in industries where prices are tied to the costs of acquiring more.
- Markup percentages vary by industry and product. There's no golden rule other than finding a price that works for both your business and your customers.
Markup Percentage Explained
Markup percentage is most useful when applied to products with discrete marginal costs because the calculations are fixed and determinable. (It can apply to services, too.) The more a business's cost structure depends on direct allocation and high marginal costs, the more markup percentage reveals.
Another important point to understand about markup percentage: There are two ways to increase it. The first way is to raise prices, the second is to reduce costs. For businesses that buy their inventory directly from suppliers, the latter could be challenging. But for those that manufacture their own goods, production efficiencies can translate directly to better margins — thus, higher markups — without having to raise prices.
Why Is Markup Percentage Important?
Markup percentage can reveal a lot about the unit economics of a business — that is, the financial numbers pertaining to each individual sale and how they contribute to or constrain the rest of the business.
Products with small markup percentages, for example, don't leave a lot of room for errors that could result in monetary losses from wasted inventory, as might occur with overordering, overproducing or high rates of returns. Businesses with a lot of competition and/or products for which there are many good substitutes are more likely to have smaller markups, as the competition can drive down prices. These businesses typically need to be on top of consumer demand and market share.
Imagine a business that buys milk cartons for $1 and sells them for $1.10 (a 10% markup). Each wasted carton would wipe out the gross profit from 10 other sales ($0.10 x 10 = $1). That business would need to be very confident in its ability to sell most or all of the cartons it orders.
Businesses whose products have a high markup percentage, however, can afford to keep more inventory on hand and concentrate more on maximizing overall sales than on worrying about selling out. For example, sellers of perfume, a product category with famously high markup percentages, need to make sure the scent a customer wants is in stock if they hope to make a sale. Perfume that sells for $50 a bottle might cost the seller only $5, but missing a sale because a customer's preferred fragrance isn't in stock would be more costly than stocking an extra unit that goes unsold.
Markup percentages are also useful for comparing the pricing power of different brands. If two companies make similar products of similar quality but one company charges a higher markup percentage, that may speak to the value of the brand and allows the seller to command a higher price for reasons such as perceived status.
Markup percentage should be viewed in context with other metrics. A big markup percentage might indicate that a business is very profitable — but not if its sales are low. A high markup percentage could also account for costs incurred from factors beyond the item itself, such as advertising and sales costs.
What Is a Good Markup Percentage?
A good markup percentage is one that results in prices customers are happy to pay, plus enough gross profit to keep a business going and growing. Some say a good markup percentage is the highest one you can get away with charging. While that's sometimes true, it is often a shortsighted strategy that invites competition (setting up a business to be the “bad guy” in its new competitors' narratives) and can damage a brand's reputation.
An appropriate markup percentage varies by industry. Most businesses can get a handle on it by talking to customers, analyzing competitors and industry norms and relying on their own experience. Generally speaking, commodity products have low markup percentages; brands are mostly interchangeable (think: milk) and competition drives down margins. On the other hand, luxury goods (think: perfume) are easy to differentiate and thus command high markup percentages. The pricing power in luxury goods is further bolstered where price signaling — equating a higher price to a higher quality product — and conspicuous consumption have more power to shape perceptions of status and value.
What Is the Average Markup Percentage?
Given the variations inherent among different industries, average markup percentages are going to be ballpark figures, dependent on data that is available and possibly skewed when there's a dominant company in the industry. For example, consider retail, where giants like Amazon and Walmart sell lots of items at low prices with small markups, while many smaller retailers sell higher priced alternatives with better service. In other words, take estimates lightly.
With that as a backdrop, here are some examples of average markups by industry:
Grocery stores operate on famously narrow margins — 1% to 3% per item is common. Since grocery stores stock many items, there's a lot of variation in the markup percentages. But overall, the grocery business is competitive, and stores are typically going to have lower markups than, for example, specialty grocery stores.
Restaurants have a much higher markup percentage than grocery stores. Restaurants typically mark up food prices anywhere from 200% to 400% over wholesale prices — but think of how much goes into overhead. Grocery store customers come to the store to buy food; restaurant customers are there to have food prepared for them in a skilled and timely manner. Keep in mind that all numbers are averages of averages: A restaurant may have a 30% markup on a hamburger and a 2,000% markup on a fountain soda, for example.
Bars have similar markups to those at restaurants, perhaps even a little higher, though they handle fewer perishable ingredients and have comparatively lower labor costs. (After all, it doesn't take a team of people to mix a drink or open a beer.) Some restaurants that sell alcohol find the food brings in the customers, but the drinks pay the bills.
Retail fashion and clothing items typically have markups between 50% and 100%, but this can vary widely. Brand-name items will typically carry higher markups, and items bought from intermediary retailers will have two lower-level markups in the chain of transactions — from maker to retailer to customer — than items bought directly from a manufacturer.
Automobiles are typically sold through dealerships. A used car seller that has to buy cars from individuals without much certainty about ever being able to resell them will have markups in the 20% to 50% range, while a typical franchised car dealership that gets new cars from a single manufacturer may have a markup percentage of 10%. New-car dealerships have more ways to recover value from cars that aren't selling, and they can also make a good deal of money through financing strategies tied to car purchases.
Luxury goods and services are an interesting category because sometimes being expensive is the point. For example, a grocery store couldn't charge $1,000 for a box of Oreos, yet a top-tier restaurant can charge an otherwise outrageous markup for a meal that makes a person feel special and bestows a sense of status. The wealthiest shoppers tend to be less price-sensitive, so markups on luxury versions of goods can be 10 times or greater the markup on more ordinary items in the same product category.
How to Calculate Markup Percentage
Markup percentage is calculated by dividing an item's gross profit by its cost, where the gross profit is the item's price (or revenue) minus the cost to produce the item or purchase it for resale. To put the result in percentage points, multiply by 100.
Markup percentage formula:
Let's revisit the perfume example, where the seller pays $5 for a bottle and charges the customer $50. The formula to calculate the markup percentage is:
Markup percentage = [(price - cost) / cost] × 100
Now we simply plug in the variables: [($50 – $5) / $5 ] x 100 = a 900% markup.
5 steps to calculating markup percentage:
Let's “talk” through how to calculate the perfume's markup percentage.
- Identify how much the perfume cost the retailer ($5).
- Identify how the retailer plans to price the perfume to sell ($50).
- Subtract the cost from the price: $50 – $5 = $45.
- Divide the answer by the cost: $45 / $5 = $9.
- Multiply the resulting number by 100 to put the answer in terms of percentage points: 9 x 100 = 900%.
Example of markup percentage calculations:
Let's say a fast-food restaurant sells a fountain soda for $1, but it only costs 5 cents to make the soda in its machine. The cost is $0.05 and the price is $1.
Markup percentage = [(price – cost) /
[(1 – 0.05) / 0.05] x 100 = 1,900%
That same restaurant sells a $3.99 burger that costs $2.89 in ingredients.
Markup percentage = [(price – cost) /
(3.99 – 2.89) / 2.89 x 100 = 38.06%
Manage Markup With NetSuite
Every SKU sold has its own markup percentage, and those markup percentages change with costs and prices. Keeping track of that in real time can be difficult, and making use of the information requires tracking other metrics. While calculating a markup percentage is straightforward, it’s a lot more difficult to track this data point alongside all the other information needed, on demand and in one place. That's where software can help. NetSuite Pricing Management provides a single platform where businesses can manage multiple pricing strategies across channels, while also preserving a profit margin.
Markup percentage is a simple metric to calculate, yet when used in conjunction with other metrics, it can reveal a lot about the unit economics of a business or product where cost-plus pricing makes sense. It's most easily applied with physical products. Markup percentage is a metric worth calculating and tracking, as management can use the information to make strategic decisions to control the health of the business.
Markup Percentage FAQs
How do you calculate markup percentage on a per-unit basis?
Markup percentage is calculated by dividing the gross profit of a unit (its sales price minus its cost to make or purchase for resale) by the cost of that unit. If an item is priced at $12 but costs the company $8 to make, the markup percentage is 50%, calculated as (12 – 8) / 8.
How do retailers use markup percentage?
A markup percentage is a way of describing the difference between an item's price and its cost to the seller, expressed as a percentage of the cost, including direct labor and overhead.
How much is a 25% markup?
A 25% markup means that the price of an item to be sold to a customer is 25% higher than the cost to the seller. An item priced at $30 with a 25% markup means the cost to the seller was $24.