In the construction industry, profit margins are razor-thin, and accurate pricing can mean the difference between a profitable project and a financial disaster. Yet, many building companies, including those tackling small projects like a £400k new build house, fall into a common trap: confusing markup with margin. This simple misunderstanding can lead to significant under-pricing or overpricing, ultimately leaving money on the table or losing a job.
The best way to illustrate this is with typical percentages small contractors use to show how serious this issue can be.
The key difference between markup and margin
Margin is the percentage of revenue that remains as profit after covering costs. Think of it as what you “keep” after expenses. The formula for margin is:
Margin = (Revenue - Cost) ÷ Revenue
Markup, on the other hand, is the percentage you add to your cost to arrive at your selling price. The formula for markup is:
Markup = (Revenue - Cost) ÷ Cost
Here’s the crucial point: your markup percentage will always be higher than your margin percentage for the same cost and selling price. Confusing the two leads to under-pricing or overpricing—both of which can hurt your business.
Mark-up does not equal margin. But mark-up on tenders should equal the intended margin in the accounts.
The Impact of Incorrect Calculations on a £400k Project
Suppose your company is pricing a £400,000 project and believes it is marking up costs by 15%, 20%, or 25%. However, if you mistakenly calculate margin instead of markup, your actual profit margin will be significantly lower.
Example 1: A 15% Markup
Intended Markup: 15%
Cost: £400,000
Selling Price: £400,000 x 1.15 = £460,000
Actual Margin: (£460,000 - £400,000) ÷ £460,000 = 13.04%
Example 2: A 20% Markup
Intended Markup: 20%
Cost: £400,000
Selling Price: £400,000 x 1.20 = £480,000
Actual Margin: (£480,000 - £400,000) ÷ £480,000 = 16.67%
Example 3: A 25% Markup
Intended Markup: 25%
Cost: £400,000
Selling Price: £400,000 x 1.25 = £500,000
Actual Margin: (£500,000 - £400,000) ÷ £500,000 = 20%
Notice the trend: the higher your intended markup, the bigger the gap between your expected and actual margin.
The Cost of Miscalculation
If you mistakenly aim for a 20% margin but use a 20% markup, here’s what happens:
Cost: £400,000
Markup of 20%: £480,000 selling price
Actual Margin: 16.67%
To achieve a true 20% margin, you would need to calculate:
Selling Price = Cost ÷ (1 - Desired Margin)
Selling Price = £400,000 ÷ (1 - 0.20) = £500,000
By using markup instead of margin, you underpriced the project by £20,000. On a portfolio of projects, this mistake can quickly compound, eating into your bottom line. Whilst you might win more work, the profit will be disappointing when you calculate the percentage.
Conclusion
Remember, your markup percentage will always be higher than your margin percentage for the same cost and selling price.
The confusion between markup and margin might seem like a small detail, but its impact can be enormous—particularly as the numbers get bigger. By understanding and applying the correct calculations, the intended profits added by the estimators will manifest themselves in the accounts.
By the time you are working on these size projects you will be familiar with the VAT calculations, it’s not dissimilar to understanding that calculation.
If you do the checks and find you are using the wrong calculation then get in touch and I will help you unwind it, without losing the unintended “competitive edge” your discount is giving. Peter.Searle@ba4cs.co.uk
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