The main rule of business activity is its profitability. That is, the produced product must be sold at a price that justifies the costs associated with its production and sale. In this regard, it is extremely important to take into account such an indicator as the marginality of goods, which shows the prospects of a particular business.
Marginality as a business indicator
Margin is an economic term that shows the difference between production costs (cost) and the price that a consumer is willing to pay for a product. Margin often means the profit received from each product sold and the profitability ratio. It is expressed as a percentage, and the final price of the product is 100%.
The profitability ratio is the main indicator of business success, so margins are necessarily taken into account when analyzing business activities. After all, it doesn’t matter how much a product costs and how much money is invested in its creation if, in the end, profitability only partially or barely covers expenses.
By correctly calculating the margin, you can assess how promising it is to produce a product, how long it will bring profit, and whether it is necessary to work with it at all.
This means that unprofitable goods and products that bring little profit are not worth producing.
Formula for calculating margin
The methods for calculating margin differ because the term can mean both net profit and its ratio. But both methods are accurate in assessing the level of profitability of a new product, which allows you to make the right decision regarding its production.
- where M is margin;
- D – income;
- And – costs.
The marginality coefficient is calculated using another formula:
- where k is the marginality coefficient;
- P – profit from one unit of goods;
- P is the selling price of a unit of goods.
A coefficient exceeding 20% is considered the minimum; a good indicator is a coefficient of 30-40%.
That is, the higher the numbers, the more profitable the product will be, which means the enterprise will quickly become profitable.
This formula is best used by enterprises planning to produce several types of products. The results will show which goods are worth producing and which ones should be abandoned, as well as determine the volume of production.
Gross margin
Profitability can be expressed in gross margin, but the European and Russian understanding of this term is different. Thus, in Russia, gross margin determines the amount of profit from goods sold, from which the costs of their creation, which are of a variable nature, are subtracted, that is, it shows how the company takes into account and covers costs.
In European economic theory, gross margin is calculated as a percentage of the profitability (after deducting the cost of production) that is obtained after the sale of the product.
The difference between the approaches is of fundamental importance - in Russia it is money, in Europe it is interest.
Margin is one of the determining factors in pricing. Meanwhile, not every aspiring entrepreneur can explain the meaning of this word. Let's try to rectify the situation.
The concept of “margin” is used by specialists from all spheres of the economy. This is, as a rule, a relative value, which is an indicator. In trade, insurance, and banking, margin has its own specifics.
How to calculate margin
Economists understand margin as the difference between a product and its selling price. It serves as a reflection of the effectiveness of business activities, that is, an indicator of how successfully the company converts into.
Margin is a relative value expressed as a percentage. The margin calculation formula is as follows:
Profit/Revenue*100 = Margin
Let's give a simple example. It is known that the enterprise margin is 25%. From this we can conclude that every ruble of revenue brings the company 25 kopecks of profit. The remaining 75 kopecks relate to expenses.
What is gross margin
When assessing the profitability of a company, analysts pay attention to gross margin - one of the main indicators of a company's performance. Gross margin is determined by subtracting the cost of manufacturing a product from the revenue from its sale.
Knowing only the size of the gross margin, one cannot draw conclusions about the financial condition of the enterprise or evaluate a specific aspect of its activities. But using this indicator you can calculate other, no less important ones. In addition, gross margin, being an analytical indicator, gives an idea of the company's efficiency. The formation of gross margin occurs through the production of goods or provision of services by the company's employees. It is based on work.
It is important to note that the formula for calculating gross margin takes into account income that does not result from the sale of goods or the provision of services. Non-operating income is the result of:
- writing off debts (receivables/creditors);
- measures to organize housing and communal services;
- provision of non-industrial services.
Once you know the gross margin, you can also know the net profit.
Gross margin also serves as the basis for the formation of development funds.
When talking about financial results, economists pay tribute to the profit margin, which is an indicator of the profitability of sales.
Profit Margin is the percentage of profit in the total capital or revenue of the enterprise.
Margin in banking
Analysis of the activities of banks and the sources of their profits involves the calculation of four margin options. Let's look at each of them:
- 1. Banking margin, that is, the difference between loan and deposit rates.
- 2. Credit margin, or the difference between the amount fixed in the contract and the amount actually issued to the client.
- 3. Guarantee margin– the difference between the value of the collateral and the amount of the loan issued.
- 4.
Net interest margin (NIM)– one of the main indicators of the success of a banking institution. To calculate it, use the following formula:
NIM = (Fees and Fees) / Assets
When calculating the net interest margin, all assets without exception can be taken into account or only those that are currently in use (generating income).
Margin and trading margin: what is the difference
Oddly enough, not everyone sees the difference between these concepts. Therefore, one is often replaced by another. To understand the differences between them once and for all, let’s remember the formula for calculating margin:
Profit/Revenue*100 = Margin
(Sales price – Cost)/Revenue*100 = Margin
As for the formula for calculating the markup, it looks like this:
(Selling price – Cost)/Cost*100 = Trade margin
For clarity, let's give a simple example. The product is purchased by the company for 200 rubles and sold for 250.
So, here is what the margin will be in this case: (250 – 200)/250*100 = 20%.
But what will be the trade margin: (250 – 200)/200*100 = 25%.
The concept of margin is closely related to profitability. In a broad sense, margin is the difference between what is received and what is given. However, margin is not the only parameter used to determine efficiency. By calculating the margin, you can find out other important indicators of the enterprise’s economic activity.
Margin can be expressed both in absolute value (in ruble equivalent) and as a percentage (as a profitability ratio). In the latter case, it is calculated as the ratio of profit (the difference between price and cost) to price. It is worth distinguishing margin from trading margins. The latter represents the ratio of the difference between price and cost to cost.
In absolute terms, margin is the difference between the selling price and the cost.
Margin = ((price - cost) / price) * 100%.
Margin is a key factor in analyzing pricing, effectiveness of marketing spend, and customer profitability. Often, an analysis of a company's activities is based on the gross margin indicator. It is calculated as the difference between the company's revenue and the variable costs of selling products.
Gross margin = revenue from product sales - variable production costs.The size of the gross margin determines the net profit from which development funds are formed.
In Europe, gross margin is understood somewhat differently - as the percentage of gross sales income that remains with the company after direct production costs have been incurred.
There is also the concept of “profit margin,” which means the share of profit in revenue or profitability of sales.
Margin in exchange activities
In exchange activities, margin is a collateral that makes it possible to obtain a cash (commodity) loan for making speculative transactions during margin trading. It is usually expressed as a percentage of the collateral to the transaction amount.
In Forex, margin is a security deposit required to open positions. For example, with a leverage of 1:20, to purchase $100 thousand, the balance in the brokerage account must be at least $5 thousand. The higher the leverage, the lower the margin (collateral).
Margin in banking
The margin is divided into credit, banking, and guarantee margins. Credit margin implies the difference between the actual cost of the goods and the amount issued to the borrower.
Bank margin is defined as the difference between lending and deposit rates. Also, to assess the bank's profitability, the net interest margin is used - this is the difference between the bank's interest income through lending and investment projects and the rate paid on capital and liabilities. This indicator allows one to draw conclusions regarding the efficiency of capital investment.
In relation to a secured loan, the guarantee margin is calculated - the difference between the cost of the collateral and the size of the loan.
Many people come across the concept of “margin,” but often do not fully understand what it means. We will try to correct the situation and give an answer to the question of what margin is in simple words, and we will also look at what types there are and how to calculate it.
Margin concept
Margin (eng. margin - difference, advantage) is an absolute indicator that reflects how the business operates. Sometimes you can also find another name - gross profit. Its generalized concept shows what the difference is between any two indicators. For example, economic or financial.
Important! If you are in doubt about whether to write walrus or margin, then know that from a grammatical point of view you need to write it with the letter “a”.
This word is used in a variety of areas. It is necessary to distinguish what margin is in trading, on stock exchanges, in insurance companies and banking institutions.
Main types
This term is used in many areas of human activity - there are a large number of its varieties. Let's look at the most widely used ones.
Gross Profit Margin
Gross or gross margin is the percentage of total revenue remaining after variable costs. Such costs can be the purchase of raw materials for production, payment of wages to employees, spending money on the sale of goods, etc. It characterizes the overall operation of the enterprise, determines its net profit, and is also used to calculate other values.
Operating profit margin
Operating margin is the ratio of a company's operating profit to its income. It indicates the percentage of revenue that remains with the company after taking into account the cost of goods, as well as other related expenses.
Important! High indicators indicate good performance of the company. But be on the lookout because these numbers can be manipulated.
Net Profit Margin
Net margin is the ratio of a company's net profit to its revenue. It displays how many monetary units of profit the company receives from one monetary unit of revenue. After calculating it, it becomes clear how successfully the company copes with its expenses.
It should be noted that the value of the final indicator is influenced by the direction of the enterprise. For example, firms operating in the retail trade usually have fairly small numbers, while large manufacturing enterprises have fairly high numbers.
Interest
Interest margin is one of the important indicators of a bank’s performance; it characterizes the ratio of its income and expense parts. It is used to determine the profitability of loan transactions and whether the bank can cover its costs.
This variety can be absolute or relative. Its value can be influenced by inflation rates, various types of active operations, the relationship between the bank’s capital and resources attracted from outside, etc.
Variational
Variation margin (VM) is a value that indicates the possible profit or loss on trading platforms. It is also the number by which the amount of funds taken as collateral during a trade transaction can increase or decrease.
If the trader correctly predicted the market movement, then this value will be positive. In the opposite situation it will be negative.
When the session ends, the running VM is added to the account or, vice versa, canceled.
If a trader holds his position for only one session, then the results of the trade transaction will be the same as the VM.
And if a trader holds his position for a long time, it will be added to daily, and ultimately its performance will not be the same as the outcome of the transaction.
Watch a video about what margin is:
Margin and Profit: What's the Difference?
Most people tend to think that the concepts of “margin” and “profit” are identical, and cannot understand the difference between them. However, even if it is insignificant, the difference is still present, and it is important to understand it, especially for people who use these concepts every day.
Recall that margin is the difference between a company's revenue and the cost of the goods it produces. To calculate it, only variable costs are taken into account without taking into account the rest.
Profit is the result of a company’s financial activities at the end of a certain period. That is, these are the funds that remain with the enterprise after taking into account all the costs of production and marketing of goods.
In other words, the margin can be calculated this way: subtract the cost of the product from the revenue. And when profit is calculated, in addition to the cost of the product, various costs, business management costs, interest paid or received, and other types of expenses are also taken into account.
By the way, such words as “back margin” (profit from discounts, bonuses and promotional offers) and “front margin” (profit from markups) are associated with profit.
What is the difference between margin and markup?
To understand the difference between margin and markup, you must first clarify these concepts. If everything is already clear with the first word, then with the second it is not entirely clear.
The markup is the difference between the cost price and the final price of the product. In theory, it should cover all costs: production, delivery, storage and sales.
Therefore, it is clear that the markup is an addition to the cost of production, and the margin does not take this cost into account during calculation.
- To make the difference between margin and markup more clear, let’s break it down into several points:
- Different difference. When calculating the markup, they take the difference between the cost of goods and the purchase price, and when calculating the margin, they take the difference between the company’s revenue after sales and the cost of goods.
- Maximum volume. The markup has almost no restrictions, and it can be at least 100, at least 300 percent, but the margin cannot reach such figures.
- Basis of calculation. When calculating the margin, the company's income is taken as the base, and when calculating the markup, the cost is taken.
- Correspondence. Both quantities are always directly proportional to each other. The only thing is that the second indicator cannot exceed the first.
Margin and markup are quite common terms used not only by specialists, but also by ordinary people in everyday life, and now you know what their main differences are.
Margin calculation formula
Gross Margin reflects the difference between revenue and total costs. The indicator is necessary for analyzing profit taking into account cost and is calculated using the formula:Basic concepts:
G.P.(grossprofit) - gross margin. Reflects the difference between revenue and total costs.
C.M.(contribution margin) - marginal income (marginal profit). The difference between revenue from product sales and variable costs
TR(totalrevenue) – revenue. Income, the product of unit price and production and sales volume.
TC(totalcost) - total costs. Cost price, consisting of all costing items: materials, electricity, wages, depreciation, etc. They are divided into two types of costs – fixed and variable.
F.C.(fixed cost) - fixed costs. Costs that do not change when capacity (production volume) changes, for example, depreciation, director’s salary, etc.
V.C.(variablecost) - variable costs. Costs that increase/decrease due to changes in production volumes, for example, the earnings of key workers, raw materials, materials, etc.
GP = TR - TC
Similarly, the difference between revenue and variable costs will be called Marginal income and is calculated by the formula:
CM = TR - VC
Gross Margin Ratio , equal to the ratio of gross margin to the amount of sales revenue:Using only the gross margin (marginal income) indicator, it is impossible to assess the overall financial condition of the enterprise. These indicators are usually used to calculate a number of other important indicators: contribution margin ratio and gross margin ratio.
K VM = GP/TR
Likewise Marginal Income Ratio equal to the ratio of marginal income to the amount of sales revenue:
K MD = CM / TR
It is also called the contribution margin rate. For industrial enterprises the margin rate is 20%, for retail enterprises – 30%.
Interest margin shows the ratio of total costs to revenue (income).The gross margin ratio shows how much profit we will make, for example, from one dollar of revenue. If the gross margin ratio is 22%, this means that every dollar will bring us 22 cents in profit.
This value is important when it is necessary to make important decisions about enterprise management. It can be used to predict changes in profits during expected growth or decline in sales.
GP = TC/TR
or variable costs to revenue:
CM = VC/TR
As we already mentioned, the concept of “margin” is used in many areas, and this may be why it can be difficult for an outsider to understand what it is. Let's take a closer look at where it is used and what definitions it gives.
In economics
Economists define it as the difference between the price of a product and its cost. That is, this is actually its main definition.
Important! In Europe, economists explain this concept as the percentage rate of the ratio of profit to product sales at the selling price and use it to understand whether the company’s activities are effective.
In general, when analyzing the results of a company’s work, the gross variety is most used, because it is it that has an impact on net profit, which is used for the further development of the enterprise by increasing fixed capital.
In banking
In banking documentation you can find such a term as credit margin. When a loan agreement is concluded, the amount of goods under this agreement and the amount actually paid to the borrower may be different. This difference is called credit.
When applying for a secured loan, there is a concept called the guarantee margin - the difference between the value of the property issued as collateral and the amount of funds issued.
Almost all banks lend and accept deposits. And in order for the bank to make a profit from this type of activity, different interest rates are set. The difference between the interest rate on loans and deposits is called the bank margin.
In exchange activities
On exchanges they use a variation variety. It is most often used on futures trading platforms. From the name it is clear that it is changeable and cannot have the same meaning. It can be positive if the trades were profitable, or negative if the trades turned out to be unprofitable.
Thus, we can conclude that the term “margin” is not so complicated. Now you can easily calculate using the formula its various types, marginal profit, its coefficient and, most importantly, you have an idea in which areas this word is used and for what purpose.
Economic terms are often ambiguous and confusing. The meaning contained in them is intuitive, but rarely does anyone succeed in explaining it in publicly accessible words, without prior preparation. But there are exceptions to this rule. It happens that a term is familiar, but upon in-depth study it becomes clear that absolutely all its meanings are known only to a narrow circle of professionals.
Everyone has heard, but few people know
Let’s take the term “margin” as an example. The word is simple and, one might say, ordinary. Very often it is present in the speech of people who are far from economics or stock trading.
Most believe that margin is the difference between any similar indicators. In daily communication, the word is used in the process of discussing trading profits.
Few people know absolutely all the meanings of this fairly broad concept.
However, a modern person needs to understand all the meanings of this term, so that at an unexpected moment “not to lose face.”
Margin in economics
Economic theory says that margin is the difference between the price of a product and its cost. In other words, it reflects how effectively the activities of the enterprise contribute to the transformation of income into profit.
Margin is a relative indicator; it is expressed as a percentage.
Margin=Profit/Revenue*100.
The formula is quite simple, but in order not to get confused at the very beginning of studying the term, let's consider a simple example. The company operates with a margin of 30%, which means that in every ruble earned, 30 kopecks constitute net profit, and the remaining 70 kopecks are expenses.
Gross Margin
In analyzing the profitability of an enterprise, the main indicator of the result of the activities carried out is the gross margin. The formula for calculating it is the difference between revenue from sales of products during the reporting period and variable costs for the production of these products.
The level of gross margin alone does not allow for a full assessment of the financial condition of the enterprise. Also, with its help, it is impossible to fully analyze individual aspects of its activities. This is an analytical indicator. It demonstrates how successful the company is as a whole. is created through the labor of enterprise employees spent on the production of products or provision of services.
It is worth noting one more nuance that must be taken into account when calculating such an indicator as “gross margin”. The formula can also take into account income outside the operating economic activities of the enterprise. These include writing off accounts receivable and payable, providing non-industrial services, income from housing and communal services, etc.
It is extremely important for an analyst to correctly calculate the gross margin, since enterprises, and subsequently development funds, are formed from this indicator.
In economic analysis, there is another concept similar to gross margin, it is called “profit margin” and shows the profitability of sales. That is, the share of profit in total revenue.
Banks and margin
Bank profit and its sources demonstrate a number of indicators. To analyze the work of such institutions, it is customary to calculate as many as four different margin options:
The ability to trade on financial markets without having large enough amounts in your account. This makes margin trading a highly profitable business. However, when participating in operations, one should not forget that the level of risk is also not small.
Opportunity to receive when the market value of shares decreases (in cases where the client borrows securities from a broker).
To trade various currencies, it is not necessary to have funds in these particular currencies on your deposit.
Credit margin is directly related to work under loan agreements and is defined as the difference between the amount specified in the document and the amount actually issued.
Bank margin is calculated as the difference between interest rates on loans and deposits.
Net interest margin is a key indicator of banking performance. The formula for calculating it looks like the ratio of the difference in commission income and expenses for all operations to all bank assets. Net margin can be calculated based on all the bank’s assets, or only on those currently involved in work.
The guarantee margin is the difference between the estimated value of the collateral property and the amount issued to the borrower.
Such different meanings
Of course, economics does not like discrepancies, but in the case of understanding the meaning of the term “margin” this happens. Of course, on the territory of the same state, everyone is completely consistent with each other. However, the Russian understanding of the term “margin” in trade is very different from the European one. In the reports of foreign analysts, it represents the ratio of profit from the sale of a product to its selling price. In this case, the margin is expressed as a percentage. This value is used for a relative assessment of the effectiveness of the company's trading activities. It is worth noting that the European attitude towards calculating margins is fully consistent with the basics of economic theory, which were described above.
In Russia, this term is understood as net profit. That is, when making calculations, they simply replace one term with another. For the most part, for our compatriots, margin is the difference between revenue from the sale of a product and overhead costs for its production (purchase), delivery, and sales. It is expressed in rubles or other currency convenient for settlements. It can be added that the attitude towards margin among professionals is not much different from the principle of using the term in everyday life.
How does margin differ from trading margin?
There are a number of common misconceptions about the term “margin”. Some of them have already been described, but we have not yet touched on the most common one.
Most often, the margin indicator is confused with the trading margin. It's very easy to tell the difference between them. The markup is the ratio of profit to cost. We have already written above about how to calculate margin.
A clear example will help dispel any doubts that may arise.
Let’s say a company bought a product for 100 rubles and sold it for 150.
Let's calculate the trade margin: (150-100)/100=0.5. The calculation showed that the markup is 50% of the cost of the goods. In the case of margin, the calculations will look like this: (150-100)/150=0.33. The calculation showed a margin of 33.3%.
Correct analysis of indicators
For a professional analyst, it is very important not only to be able to calculate an indicator, but also to give a competent interpretation of it. This is a difficult job that requires
great experience.
Why is this so important?
Financial indicators are quite conditional. They are influenced by valuation methods, accounting principles, conditions in which the enterprise operates, changes in the purchasing power of the currency, etc. Therefore, the resulting calculation result cannot be immediately interpreted as “bad” or “good.” Additional analysis should always be performed.
Margin on stock markets
Exchange margin is a very specific indicator. In the professional slang of brokers and traders, it does not mean profit at all, as was the case in all the cases described above. Margin on stock markets becomes a kind of collateral when making transactions, and the service of such trading is called “margin trading”.
The principle of margin trading is as follows: when concluding a transaction, the investor does not pay the entire contract amount in full, he uses his broker, and only a small deposit is debited from his own account. If the outcome of the operation carried out by the investor is negative, the loss is covered from the security deposit. And in the opposite situation, the profit is credited to the same deposit.
Margin transactions provide the opportunity not only to make purchases using borrowed funds from the broker. The client may also sell borrowed securities. In this case, the debt will have to be repaid with the same securities, but their purchase is made a little later.
Each broker gives its investors the right to make margin transactions independently. At any time, he may refuse to provide such a service.
Benefits of Margin Trading
By participating in margin transactions, investors receive a number of benefits:
Management of risks
To minimize the risk when concluding margin transactions, the broker assigns each of its investors a collateral amount and a margin level. In each specific case, the calculation is made individually. For example, if after a transaction there is a negative balance in the investor’s account, the margin level is determined by the following formula:
UrM=(DK+SA-ZI)/(DK+SA), where:
DK - investor's funds deposited;
CA - the value of shares and other investor securities accepted by the broker as collateral;
ZI is the debt of the investor to the broker for the loan.
It is possible to carry out an investigation only if the margin level is at least 50%, and unless otherwise provided in the agreement with the client. According to general rules, the broker cannot enter into transactions that will lead to a decrease in the margin level below the established limit.
In addition to this requirement, a number of conditions are put forward for conducting margin transactions on the stock markets, designed to streamline and secure the relationship between the broker and the investor. The maximum amount of loss, debt repayment terms, conditions for changing the contract and much more are discussed.
It is quite difficult to understand all the diversity of the term “margin” in a short time. Unfortunately, it is impossible to talk about all areas of its application in one article. The above discussions indicate only the key points of its use.
