TRADES COACH
EXAMPLE Imagine your business needs to make a 20% gross margin to be profitable. Armed with this figure, you price your next job by adding a mark-up of 20% to your direct job costs to create your sales price:
Direct costs + Mark-up
$50,000 $10,000
Rather than selling the job at $60,000 (based on a 20% mark-up), you need to sell it at $62,500 (a 25% mark-up) in order to achieve a 20% gross margin at the end of the job.
Sales price (revenue) $62,500 - Direct costs $50,000 $12,500
[20% of $50,000]
÷ Sales price (revenue) $60,000
= Sales price (revenue) $60,000
= Gross margin However, when running the figures at the end of the job, you discover that the business only made between 16% and 17% gross margin. Even though the job went as planned, you have fallen short of your target margin by 3-4%:
Run this extra calculation when pricing your work to achieve the profit levels required for your business to succeed. If you want more help, email me at andy@tradescoach.co.nz and I can send you a one-page ready reckoner chart that makes it easy to work out your required margin.
Sales price (revenue) $60,000 - Direct costs $50,000
CALCULATING MARK-UP VS MARGIN
$10,000 ÷ Sales price (revenue) $60,000 = Gross margin
Mark-up % = (profit ÷ direct costs) x 100 Margin % = (profit ÷ sales price) x 100
0.167 [16.7%]
Your 20% target gross margin has become an actual profit margin of 16.7% because the mark-up was too low. WHAT’S THE ANSWER? To achieve the target gross margin in the example above, you need to create a higher mark-up to your direct costs when calculating the sales price. The formula to calculate the required sales price is: Direct costs ÷ (1 – target gross margin expressed as a decimal). In our example, the target gross margin of 20% is now 0.2 when expressed as a decimal (see below):
Direct costs
$50,000
÷ (1 - 0.2)
0.8
= Sales price
$62,500 [makes a 25%
mark-up of $12,500]
M I T R E 10
/
T R A D E Q UA R T E R LY
0.2 [20%]
34