Traditionally, marketing is considered to have “four Ps”: product, price, promotion, and place. For some companies, that second P — price — can be the hardest to nail down.
How should you price your products accurately and effectively? You’ll need to choose between margin vs markup, and both give slightly different results.
If you’re not sure which one is right for you, we’re here to help. Keep reading to make the right choice between margin vs markup!
The Difference Between Markup and Margin
First, let’s define the terms markup and margin, so you’ll understand the differences between the two. Here’s what you need to know.
A product markup is a number you get by subtracting a product’s selling price from its retail price. Basically, a markup measures the difference between the cost of make a product and how much it sold for.
The markup gives a quick and simple way to see the profits made on an individual item.
Let’s say you have a product that costs $5 to make, but you sell it for $10. In this case, your markup is $5.
The margin provides a different look at the exact same information.
To get the profit margin, you’ll subtract your revenue from the cost of the sold goods. However, profit margin is expressed as a percentage, rather than a whole number.
In the example above, where the product costs $5 and sells for $10, the profit margin would be expressed as 50 percent. However, things get a little more complicated if you consider things like gross profit margins. See more information here about the formulas needed to calculate margin vs markup.
Margin vs Markup: Which One Is Right for You?
Even though margin and markup seem very similar, your results can differ based on which one you choose.
It’s very important to track the right factors so you can keep your business out of trouble. For example, things can appear to be going well if your gross profit is increasing. But if your profit margin is going down at the same time, you could soon find yourself in an unpleasant business situation.
Margin Pros and Cons
No matter how big your sales are, if you don’t consider your margins, your business won’t stay profitable. Your pricing needs to keep profits in mind, and using margins to set prices can help you achieve this.
Margin lets you see what it will take to break even, and then the profits you can add on top of that. Margin measures the difference between your product’s selling price and its profits, while markup measures the difference between a product’s cost and selling price.
Markup Pros and Cons
Markup tends to work best in fixed-price cases. However, one drawback with using markup to set prices is that it doesn’t factor in all the indirect costs involved in selling a product.
Although it costs a certain amount to make a product, it also costs money to market the product, pay your staff, and do the other things associated with making a sale. Since markup looks only at the cost to produce a product, not the overall profits, it doesn’t give the most complete picture.
How to Price Products Effectively
With that in mind, how can you best price products to maximize profitability using the information you have? Here are a few tips to help you nail your pricing.
1. Balance Cost and Value
You know how much it costs to produce your product, and you should at least be able to estimate the other costs attached to selling it. These markup and margin numbers should help set your prices. But you need to balance this information with the way customers value your product.
At the end of the day, your sales depend on how valuable customers see your product as. If you set a price that’s outside of perceived value, few people will pay it. You might need to lower your prices or devote more funds to marketing so more people see the value in what you sell.
You should also consider what your competitors are selling their products for. If your product costs more, how can you demonstrate that it has greater value?
2. Consider Fixed and Variable Costs
The costs involved in selling your products can be both fixed and variable. If you don’t consider both types of costs, you’ll never be able to set prices effectively.
Variable costs are related to how many products get made and sold. For example, the cost of materials varies depending on how many products you make.
Fixed costs stay the same no matter what you sell. The rent you pay for your retail space is one example of a fixed cost. Your sales price needs to cover both the fixed and variable costs. Try to track those costs in one place so you can account for everything.
3. Weigh Your Priorities
In business, everything involves profit in some way. Without it, the business can’t keep going. But it’s not all about the short-term money you’ll make from a sale.
For example, maybe you want consumers to see your products as high-end luxury items. Pricing things low and selling high volumes might get you more profits for the time being. But a higher price will help establish that luxury identity you want, which can translate to more profits later on.
Your pricing strategy might need adjusting depending on your immediate priorities. Are you trying to increase market share? Then it might actually make sense to take a loss in order to get more people hooked on your product.
How Product Pricing Can Change Your Business
The question of margin vs markup ultimately matters less than the question of setting prices correctly. You’ll probably need to use both calculations from time to time to get it right. Which one you use at a given time depends on the situation, but you should always try to keep both in mind.
If your business is just getting started, pricing isn’t your only concern. Wondering how to get new customers to buy your products? Don’t miss this guide!