Cambridge IGCSE Accounting(0452)/O Level Principles of Accounts(7110) Notes: Profitability Ratios

  • So we have already introduced you to accounting ratios
  • These ratios include a group of ratios that are known as profitability ratios
  • Such ratios measure how well a business performed in profit terms in a given period
  • At this level you are required to know how to calculate three profitability ratios:
    1. Markup
    2. Margin
    3. Net Profit (percentage)
  • As shown by the Income Statement (and Trading and Profit and Loss Accounts) there are two major types of profit:
    1. Gross Profit i.e. Sales (Net Turnover) – Cost of Sales and
    2. Net Profit i.e. Gross Profit – Operating Costs
  • Traditionally markup and margin are calculated using Gross Profit
  • For this reason they are often called gross profit margin and gross profit markup


  • Is the amount added to the cost of an item to obtain its selling price
  • Markup= Selling Price-Cost of Sales
  • As you can tell markup is usually similar to Gross Profit
  • Markup as a ratio is calculated using the formula:\mathrm{\frac{Profit}{Cost \quad of \quad Sales}}
  • For example a business has:
    1. Sales of 10 000
    2. Cost of Sales 8 000
  • In a given period
  • Calculate the markup:
  • Gross Profit = $10 000- $8 000
  • $2 000
  • Markup= \frac{2 000}{8 000}
  • \frac{1}{4}
  • Typically markup is expressed as a fraction in its lowest terms or as a percentage
  • In the above example the markup will be:
  • 25%
  • Bear in mind that markup can be calculated either for entire sales or for each unit


  • This is when profit is expressed in terms of the selling price
  • It is calculated using the formula:
  • \mathrm{\frac{Profit}{Sales}} alternatively this can be expressed as
  • \mathrm{\frac{Profit Per Unit}{Selling Price}}
  • In the above example the margin would thus be:
  • \frac{2000}{10000}
  • \frac{1}{5}
  • In percentage terms this would be:
  • 20%

Relationship between Markup and Margin

  • Because they are essentially derived from the same forumulae and items
  • There is a relationship between markup and margin
  • When given the margin \frac{1}{x} markup can be calculated using the formula:
  • \frac{1}{x-1}
  • For example if the margin is \frac{1}{5}
  • The markup would be:
  • \frac{1}{5-1} i.e.
  • \frac{1}{4}
  • Conversely given the markup \frac{1}{y}  the margin can be calculated as a formula:
  • \frac{1}{y+1}
  • For example if the margin is \frac{1}{4}
  • Then the markup would be:
  • \frac{1}{4+1} i.e.
  • \frac{1}{5}
  • You should be mindful of this relationship when it is needed e.g. during accounting using incomplete records

Net Profit Percentage

  • This is when the net profit is expressed in terms of Sales
  • It is sometimes known as Net Profit Margin for obvious reasons
  • The ratio is expressed and presented in percentage terms
  • The formula is: \mathrm{\frac{Net Profit}{Sales} x \frac{100}{1}}
  • For example a Business had Sales of $25 000 and a net profit of $5 000 calculate the Net Profit Percentage
  • \mathrm{\frac{5000}{25000} x \frac{100}{1}}
  • 20%

Where to get the figures/amounts

  • Profitability ratios as already pointed out involve the analysis of profit figures
  • Figures/Amounts used in the calculation of these ratios can be obtained from Income Statement/Trading and Profit and Loss Accounts

To access more topics go to the Principles of Accounting Notes.

Quick NetOne, Telecel, Africom, And Econet Airtime Recharge

If anything goes wrong, chat with us using the chat feature at the bottom right of this screen