Margin
gross margin / unit margin / percentage margin / gross profit
Margin is the difference between selling price and cost, stated either as a percentage of the selling price or per unit. The standards board that defines it also records that managers differ widely in the assumptions they use. So the number only means something once you know which costs are inside it.
The definition and the warning arrive together. The Universal Marketing Dictionary says margin on sales is the difference between selling price and cost, and that this difference is typically expressed either as a percentage of selling price or on a per-unit basis. Then comes the sentence worth underlining: managers differ widely, however, in the assumptions they use in calculating margins and in the ways they analyze and communicate these important figures. In a survey of nearly 200 senior marketing managers, 78 percent found percentage margin and 65 percent found unit margin very useful. Two people can each be using a useful number and not the same one.
Gross margin narrows it without settling it. Gross margin is the difference between revenue and cost before accounting for certain other costs. The weight in that sentence sits on certain other costs, because which ones get left out is precisely the assumption that varies from one person to the next.
The tax code pins one specific version, which is why it is worth knowing. The IRS instruction is to figure your gross profit by first figuring your net receipts, then to subtract the cost of goods sold from net receipts, and the result is the gross profit from your business. The ordering is stated outright: you must determine gross profit before you can deduct any business expenses. So the version on the return sits above rent, wages, software, and everything else that keeps the doors open.
There is a trap in that for anyone selling services rather than products. The IRS says you do not have to figure the cost of goods sold if the sale of merchandise is not an income-producing factor for your business, and that for such a business gross profit is the same as net receipts. A consultancy reading its own return therefore sees a gross profit close to its entire revenue. The figure is correct and it is a poor basis for deciding what winning one more customer is worth.
In practice
The dictionary is direct about what the metric is for: the purpose of the margin metric is to determine the value of incremental sales. That is exactly the decision behind a budget, a bid or an offer, and it needs a margin with your cost of delivering the work already taken out. A figure that sits above your operating costs will tell you that you can afford more than you can.
Not the same as
- Gross profit on the return
- The tax version is computed before any business expense is deducted. A margin used to price work usually has delivery costs inside it. Same word, different position in the accounts.
- What is left over
- Margin describes a sale. What remains after the costs of staying open is a separate question, and the IRS ordering makes the gap explicit by putting expenses after gross profit rather than inside it.
Why it matters to you
Every judgment about what a lead or a customer is worth is a margin judgment underneath, whether or not anybody says the word. If the figure in use sits above the costs of doing the work, every downstream number inherits the error: the affordable cost per lead, the ad budget, the discount somebody approves on a Friday.
What to ask or check
- 01Which costs are inside this margin, and which have been left out?
- 02Is it stated per unit, or as a percentage of the selling price?
- 03Is this the figure used to price work, or the one from the return that sits before expenses?
What people get wrong
That margin is one number. The standards board records that managers differ widely in the assumptions they use, so two people can quote a margin for the same sale and both be describing something real and different.
Red flags
- A margin quoted with no statement of what it is net of.
- An advertising budget set from a figure that excludes the cost of delivering the work.
- A service business using its tax gross profit, which the IRS says equals net receipts when merchandise is not an income-producing factor.
Who owns it
Whoever sets prices and whoever files the return. They are usually using different versions of the number without ever comparing them.
Where you will see it
On a pricing sheet, on a Schedule C, and inside the arithmetic behind any agreed cost per lead.