The word margin, as well as the terms “margin” and “marginality” derived from it, sound quite often today. At the same time, even those who actively use these words do not always understand their meaning (for example, confusing margin with a markup).
Sometimes disagreements arise even between companies that have entered into an agreement, since each party interprets it in its own way. Let’s figure out what margin is in order to continue to use this term without errors and inaccuracies.
What is margin
To begin with, let’s clarify that the terms “markup”, “profit” and “margin” are close in meaning, but they mean different things. It is important to distinguish between them so as not to make mistakes when concluding serious contracts.
The main difference from the markup is that the percentage value of the margin is calculated relative to the full (final) cost of the goods, and the markup is calculated relative to the original cost.
Marginal – a definition applicable to the processes and phenomena associated with the margin. For example, marginal profit is the difference between revenue and variable costs. In the field of trading currencies and securities, the term margin trading is used. It implies that the trader receives a short-term loan to carry out a financial transaction, after which he returns the full amount and margin to the lender.
Margin formulas and usage example
Calculating these values is quite simple. The markup is calculated using the formula:
N = 100 * (price – cost) / cost
And the margin according to the formula:
M = 100 * (price – cost) / price
In the trading business, the cost of goods refers to the price of its acquisition from the supplier. After analyzing these formulas, we can conclude that the margin can have any value (for example, 300%). The margin cannot exceed 100% (the maximum value possible at zero cost).
The meaning of the terms “margin” and “markup” in the case of a trading business is almost the same, but the meanings are significantly different. This leads to disagreement between partners. Discrepancies could be avoided by using only absolute values. But when drafting contracts, such an approach is impractical, and relative percentages are more convenient.
At the same time, “psychologically” for different markup values, the margin indicator does not differ so much. So in the above example, with a markup of 100%, the margin was 50%. If you add 300% to the cost of goods (the normal value for some niches), the margin will be 75%. Thus, it is important to accurately understand the difference between these concepts, since the consequences of an error can be quite significant.
Profit, unlike margin, takes into account all costs, including advertising, logistics, storage costs, and so on. Therefore, net profit is always less than the estimated margin.
