Everything about Markup Business totally explained
Markup is a term used in
marketing to indicate how much the price of a
product is above the cost of producing and distributing the product. It can be expressed as a fixed amount or as a percentage. There are numerous variations of each.
Initial Markup
The initial markup (IMU) is the difference between the initial retail selling price (at the time of receipt of the merchandise) and the cost. Then the percentage is calculated as that difference divided by the initial cost of goods sold. ((Initial Retail - Cost) /Initial Cost) * 100%.
Let's look at an example:
Initial Retail is $1.99
Cost is $1.40
Difference = $0.59
Thus the Initial Markup is ($0.59/$1.40) x 100% = 42.14%
The Profit Margin is the profit relative to the sales price = ($0.59/$1.99) x 100% = 29.65%
Assuming no selling price increases, then 29.65% is the maximum margin (or gross profit%) that can be attained in selling this item. Markdowns, defined as reductions in the retail selling price when the item can't be sold at its intended price, would further erode that gross profit %.
This number has great importance in that it should be compared to Operating Expenses (OE) expressed as a percentage of sales (income), taken from a Profit and Loss Statement. In reviewing OE%, it's important to look at an annual figure since any individual month may not properly reflect the full year. If OE% is 42.0%, then this item can't be sold profitably. For this example, that product loses $0.124 every time it's sold (after deducting its share of operating expenses).
The more times this item is sold, then there's a cumulative effect of growing profit dollars and growing sales. Eventually, if enough are sold, then the OEs are divided by a larger sales number, which will decrease the OE%.
The lesson here's that initial pricing is an extremely important step in merchandising. For retailers that use a traditional calculation, such as Keystoning, which is doubling cost to arrive at selling price (100% IMU, 50% profit margin), this may or may not be adequate to be profitable, particularly after markdowns are taken. In reality, there are numerous examples of products that can't be sold profitably, but need to be in the store to satisfy customer needs. Therefore, other products need to be sold at higher MU%'s to cover the net losses of these products that lose money.
One good source for this information is "A Basic Management Accounting Manual for the Menswear Specialty Store", published by the Financial and Operations Group of the Menswear Retailers of America. However, the MRA merged with another organization that represented Women's Apparel and the book is out of print.
Determination
As a Fixed Amount
- Assume:
- Retail list price = $2500
- Product cost is $2000
MARKUP = price - cost
Assume the actual selling price was $2200
- MARKDOWN = List price - selling price
- INITIAL MARKUP = list price - cost
- MAINTAINED MARKUP = sale price - cost
As a Percentage
Algebra:
(Original * Markup) + Original = Total
Solved for Markup:
Solved for Markup:
As total = $1.99
Original = $1.40
Markup = $1.99 / 1.40 - 1 = 42%
To convert from markup to margin or profit margin:
Combining the above
Margin = 1- 1/(1.42)= 29.5%
Further Information
Get more info on 'Markup Business'.
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