When a business sells merchandise or services to customers, it must charge a price higher than the cost of goods or labor in order to earn a profit. The markup of cost is the percentage of an item's wholesale cost that the retailer includes in its retail cost to make a profit.
Determining Base Price
Before you can calculate markup of cost, you must determine the base price of your merchandise. This includes the cost of goods sold and a percentage of overhead expenses. The cost of goods sold includes all expenses related to the production of the merchandise, such as materials, manufacturing costs and labor. Overhead costs include the other expenses related to running the business, such as utilities, rent, advertising, packaging, shipping and payroll expenses.
Using Markup to Determine Retail Price
To calculate the necessary retail price for your merchandise or services, you must consider the amount of profit you wish to earn and compare it to the highest price the market will tolerate. For example, to earn a 30 percent profit on each item you sell, the retail price of each item must equal the wholesale price plus a 30 percent markup of the wholesale cost. However, if the current market price of the item is significantly lower than the price you calculate, you must typically decrease your markup and settle for a lower percentage of profit.
Markup of Cost vs. Profit Margin
Some business owners may confuse markup of cost with profit margin. Though markup of cost and profit margin both measure the amount of profit your business earns on a sale, they aren't the same. Markup of cost is a percentage of the wholesale cost of the item, while profit margin is the dollar amount by which the item's retail price exceeds its wholesale price. For example, an item with a wholesale price of $50 and a retail price of $75 has a profit margin of $25 ($75 - $50 = $25) and a markup of 50 percent ($25/$50 = .50 x 100 = 50 percent).
Considerations
In some cases, a business's target profit margin may not be high enough to reflect the item's typical price in the desired market. For example, certain luxury items, such as designer purses, tend to sell for retail prices that are much higher than their wholesale cost. In such cases, the company may increase its markup of the item in order to participate in the desired market.