What Is Margin and How to Calculate It? A Simple Guide for Beginner Entrepreneurs

What Is Margin?

Margin is the difference between the selling price of a product and the cost of purchasing or producing it. In simpler terms, it is the profit from the sale of a given item. Thanks to margin, we can determine how much we earn on a single transaction after covering the direct costs of acquiring the product. Margin is a key indicator of sales profitability, as it allows assessing whether the product price is high enough to cover costs and generate profit.

Why determine margin? Knowing your margin helps beginner entrepreneurs set appropriate prices for products and services. It allows you to quickly assess which products are profitable and which generate too little profit. Margin also facilitates financial planning – it allows predicting what profit we'll achieve at a given level of sales, which is essential for making informed business decisions.

Most Common Types of Margin

In practice, there are several types of margin worth knowing:

- Gross margin – the profit from selling a product after deducting direct costs of purchasing or producing the goods. Gross margin shows how much we earn from product sales without accounting for indirect costs (e.g., administrative costs, rent, etc.). In other words, it is the gross profit on a product or service, reflecting the profitability of the goods sale itself.
- Net margin – the company's final profit after deducting all costs, both direct and indirect. Net margin includes operating costs, taxes, administrative costs – thus showing the pure profitability of the business. It is often expressed as the ratio of net profit to sales revenue (e.g., as a percentage). Net margin allows assessing what portion of sales revenue remains in the company as profit after covering all expenses.
- Percentage margin – margin expressed as a percentage. It indicates what portion of the selling price constitutes profit. It is calculated by dividing the monetary margin (profit in currency) by the selling price and multiplying the result by 100%. For example, if we purchased a product for 80 PLN and sold it for 100 PLN, the monetary margin is 20 PLN, and the percentage margin is 20% (because 20 PLN is 20% of 100 PLN). Expressing margin as a percentage is very useful because it enables easy comparison of profitability across different products or even different companies regardless of their price scales.

Note: The concept of margin is sometimes confused with markup. Percentage margin shows profit in relation to the selling price, while percentage markup shows profit in relation to the purchase price. For clarity, in this article, we focus on margin – profit relative to the selling price.

How to Calculate Margin?

Calculating margin is quite simple and can be done in a few steps:

1. Monetary margin: To calculate margin in monetary units, subtract the purchase cost (or production cost) of the product from the selling price.

Example: If the purchase price is 50 PLN and the selling price is 80 PLN, the margin is 80 PLN - 50 PLN = 30 PLN. This means we earn 30 PLN gross per unit on the sale (not accounting for other costs).

2. Percentage margin: To calculate margin as a percentage, divide the monetary margin by the selling price and multiply by 100%.

Example: For the above data, the percentage margin is (30 PLN / 80 PLN) * 100% = 37.5%. This means 37.5% of the selling price is our profit. Percentage margin can also be calculated relative to the purchase price, but the standard in trade is to reference it to the selling price.

3. Net margin (total): If we want to include additional costs (e.g., transportation, marketing, administration costs per product), we also subtract them from the monetary margin.

Example: Continuing the previous scenario – if we incurred an additional 5 PLN in other costs to sell one unit, the net margin per unit would be 30 PLN - 5 PLN = 25 PLN. To calculate net margin as a percentage for the whole company, we would compute (net profit / sales revenue) * 100% for a given period.