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In a retail situation it is usual to add a mark-up to the direct (variable) costs of buying relatively similar goods in order to cover estimated overheads (fixed costs). This markup is then applied to all goods made or purchased.
The steps are:
Estimate direct (variable) costs for the next year
This will involve analysing the quantities of products sold in recent years and estimating the quantity likely to be sold next year (see the Estimating Sales topic). Then allowing for expected prices from suppliers for the coming year, estimate the cost price of this volume of products.
Estimate fixed costs for the next year
Estimating overhead costs will generally involve the following steps:
(a) identify all overhead costs (including owner’s return or profit)
(b) estimate the annual cost for each overhead
Calculate the markup percentage
The products estimates in Step 1 must be sold for the their own cost price plus an extra amount to cover the estimated fixed costs estimated in Step 2. Calculate the fixed costs as a percentage of the product costs, and this is the extra that must be added to each product when sold:
Markup percentage =
Estimated product costs