Markup vs margin in a construction bid, with the math
Convert markup to margin and back, build a bid price with overhead, profit and a bond premium, and read where your price lands in a bid tabulation.
Markup is profit as a share of cost. Margin is profit as a share of price. The same profit can be stated either way, and the two figures differ: a 20% markup is a 16.7% margin. The conversions are margin = markup / (1 + markup) and markup = margin / (1 - margin). In a bid, build the price in order: direct cost, then general conditions, then home-office overhead, then profit, then the bond premium, which is charged on the bid itself. A bid tabulation then shows where the price landed against the others.
This article covers the definitions, the conversion table, the mistake that most often costs contractors money, a worked bid build-up with a bond premium, break-even, why overhead belongs before profit, and how to read a bid tabulation. The numbers are for one illustrative project, and the method applies to any bid.
What is the difference between markup and margin?
Take a job that costs 100 and earns 20 of profit:
- Markup = profit / cost = 20 / 100 = 20%
- Price = cost + profit = 100 + 20 = 120
- Margin = profit / price = 20 / 120 = 16.67%
Both figures describe the same 20 of profit. Markup uses cost as its base, and margin uses price. Because price is always larger than cost, the margin is always smaller than the markup for the same profit.
The conversions follow from those definitions:
margin = markup / (1 + markup)markup = margin / (1 - margin)
Check the first with the example: 0.20 / 1.20 = 0.1667. Check the second: 0.1667 / (1 − 0.1667) = 0.20.
How do markup and margin percentages convert to each other?
| Markup | Margin | Margin | Markup | |
|---|---|---|---|---|
| 5% | 4.76% | 5% | 5.26% | |
| 10% | 9.09% | 10% | 11.11% | |
| 15% | 13.04% | 15% | 17.65% | |
| 20% | 16.67% | 20% | 25.00% | |
| 25% | 20.00% | 25% | 33.33% | |
| 30% | 23.08% | 30% | 42.86% |
The left pair converts markup to margin, and the right pair converts a target margin to the markup you have to price at. Contractors often think in markup because the estimate is built from cost, and owners often compare margins. The table is the translation between the two.
What is the classic markup and margin mistake in a bid?
A bid is estimated at a cost of $1,134,000. The estimator adds 20% for profit, and the proposal shows a profit of $226,800 and a price of $1,360,800. The estimator reports a 20% margin.
It is a 16.67% margin. The profit of $226,800 is 16.67% of the $1,360,800 price, not 20%. If the company needs a 20% margin on this cost, the price must be cost / (1 - 0.20) = $1,134,000 / 0.80 = $1,417,500, which carries a markup of 25.00%. The gap between the two numbers is $56,700 of profit on this job.
How is a construction bid price built up in layers?
A bid is built up in layers, and each layer uses the one before it as its base. The example below is for one illustrative job with a direct cost of $1,000,000. It uses assumed percentages, which are chosen to show the arithmetic and are not benchmarks.
| Line | Basis | Amount ($) |
|---|---|---|
| Direct cost | Sum of the trade estimates | 1,000,000.00 |
| General conditions | 8% of direct cost | 80,000.00 |
| Home-office overhead | 5% of direct cost plus general conditions | 54,000.00 |
| Cost before profit | Sum of the three lines above | 1,134,000.00 |
| Profit | 5% markup on cost before profit | 56,700.00 |
| Price before bond | Cost before profit plus profit | 1,190,700.00 |
| Bid price | Price before bond / (1 − 0.01) | 1,202,727.27 |
| Bond premium | 1% of the bid price | 12,027.27 |
For the direct cost, the trade estimates usually come from a takeoff organized by CSI MasterFormat division. The construction cost estimate article covers that stage. General conditions are the job-site costs that do not belong to one trade, such as supervision, temporary facilities and site management. Home-office overhead is the company's cost of running the business, spread across its jobs.
Why the bond is grossed up
A bond premium is usually quoted as a percentage of the contract amount. The surety charges it on the price the owner pays, and that price includes the bond. So the bid has to be grossed up: bid = price before bond / (1 - bond rate).
The shortcut of adding the bond rate to the price gets this wrong. Take the same job with a 3% bond rate. The correct bid is 1,190,700 / (1 − 0.03) = $1,227,525.77, with a premium of $36,825.77. The shortcut gives 1,190,700 × 1.03 = $1,226,421.00. The premium on that price is $36,792.63, and the profit left after paying it is $55,628.37, which is $1,071.63 less than the $56,700 the estimate intended.
The effect is small at a 1% rate and larger at higher rates. It is worth checking the formula each time, because bond rates vary by surety and by project.
Profit after the bond
In the 1% example, the bid is $1,202,727.27. Subtract the cost before profit ($1,134,000.00) and the bond premium ($12,027.27), and the profit left is $56,700.00, the 5% markup. Measured against the bid, that profit is a margin of 56,700 / 1,202,727.27 = 4.71%. The bond premium is a cost that comes out of the bid, so the margin on the bid is slightly lower than the markup on cost.
How do you calculate the break-even bid price?
The break-even bid is the lowest price that covers all costs, including the bond, with no profit:
break-even bid = cost before profit / (1 - bond rate) = 1,134,000 / 0.99 = $1,145,454.55
The bond premium at that price is $11,454.55. Any bid below $1,145,454.55 does not cover the cost of the job, overhead and bond included, so it loses money. Whether a bid at or above that figure is competitive is a separate question. The break-even figure is the floor, not a target.
Why should overhead be included before profit in a bid?
Home-office overhead is a real cost of doing the job, so it goes into cost before profit. The markup then applies to it, and the profit is a share of the full cost. If overhead is added after profit, the profit is calculated on a smaller base. In the example, 5% of direct cost plus general conditions is $54,000, against $56,700 when overhead is included. The profit falls by $2,700 for the same markup, which is the cost of leaving overhead out of the base.
How do you read a construction bid tabulation?
A bid tabulation lists every bid received, sorted from low to high, with each bid's difference from the low bid. For a bid you submitted, the tabulation also shows where you landed. Using the bid above and three other bids:
| Rank | Bidder | Bid ($) | Difference from our bid ($) | Percent over our bid |
|---|---|---|---|---|
| 1 | Our bid | 1,202,727.27 | ||
| 2 | Bidder B | 1,216,450.00 | 13,722.73 | 1.14% |
| 3 | Bidder C | 1,231,900.00 | 29,172.73 | 2.43% |
| 4 | Bidder D | 1,268,000.00 | 65,272.73 | 5.43% |
The spread to the next bidder shows how far the price could have risen and still been the low bid. Our bid was $13,722.73 below the next bid, which is 1.14% of our bid. If the spread is narrow, a small change in profit or contingency would have changed the result. If it is wide, the price may have had room to rise, or the bidders may have priced different scopes.
A tabulation shows prices only. Before reading much into the spread, check the qualifications, alternates and exclusions in each bid, because a lower price can come from a smaller scope. The bid tabulation template lays out the bids side by side, and the bid markup calculator is the place to run the build-up above.
Construction bid pricing checklist
- Keep markup and margin separate in the estimate and in the proposal. Label which one each figure is.
- Convert a target margin to a markup before pricing, using
markup = margin / (1 - margin). - Put overhead in cost before profit.
- Gross up for the bond rate with a division, not an addition.
- Check the break-even bid before the competitive one.
- After the bids open, compare the spread to the next bidder with the scope differences.
For the definitions alone, with a shorter example, see markup vs margin.