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CHAPTER 6. MARKUPS FOR PRODUCT PRICE DETERMINATION

TABLE OF CONTENTS

6.1 INTRODUCTION ........................................................................................................... 6-1

6.1.1 Distribution Channels...................................................................................................... 6-1

6.1.2 Markup Calculation Procedure ........................................................................................ 6-1

6.2 MANUFACTURER MARKUPS.................................................................................... 6-1

6.3 RETAILER MARKUP .................................................................................................... 6-2

6.3.1 Approach for Retailer Markups....................................................................................... 6-2

6.3.1.1 Baseline Retailer Markup .............................................................................. 6-3

6.3.1.2 Incremental Retailer Markup ......................................................................... 6-4

6.4 SALES TAXES ............................................................................................................... 6-8

6.5 SUMMARY OF MARKUPS .......................................................................................... 6-8

LIST OF TABLES

Table 6.2.1 Major Appliance Manufacturer Gross Margins and Markups............................. 6-2

Table 6.3.1 Data for Baseline Markup Calculation: Electronics and Appliance Stores 

(2002)................................................................................................................... 6-3

Table 6.3.2 Data for Incremental Markup Calculation: Electronics and Appliance 

Stores (2002)........................................................................................................ 6-6

Table 6.3.3 Electronics and Appliance Stores, Concentration by Four Large Firms ............. 6-7

Table 6.4.1 Average Sales Tax Rates by Census Division and Large State ........................... 6-8

Table 6.5.1 Summary of Markups .......................................................................................... 6-8
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CHAPTER 6. MARKUPS FOR PRODUCT PRICE DETERMINATION

6.1 INTRODUCTION

To carry out its analyses, DOE needed to determine the cost to the consumer of baseline 

products and the cost of more-efficient units. For products with higher-than-baseline efficiency, 

DOE estimated the consumer prices by applying appropriate markups to the incremental 

manufacturing costs estimated in the engineering analysis. 

6.1.1 Distribution Channels

The appropriate markups for determining consumer equipment prices depend on the type 

of distribution channels through which products move from manufacturers to purchasers. At 

each point in the distribution channel, companies mark up the price of the equipment to cover 

their business costs and profit margin. 

Data from the Association of Home Appliance Manufacturers (AHAM)1

6.1.2 Markup Calculation Procedure

indicate that an 

overwhelming majority of residential appliances are sold through retail outlets. Because DOE is 

not aware of any other distribution channel that plays a significant role for residential microwave 

ovens, DOE assumed that all of the microwaves are purchased by consumers from retail outlets. 

At each point in the distribution channel, companies mark up the price of the equipment 

to cover their business costs and profit margin. In company income statements, gross margin is 

the difference between the company revenue and the company cost of goods sold (CGS). The 

gross margin includes the expenses of companies in the distribution channel—including 

overhead costs (sales, general, and administration); research and development (R&D) and 

interest expenses; depreciation, and taxes—and company profits. To cover costs and to 

contribute positively to company cash flow, the price of products must include a markup. 

Products command lower or higher markups, depending on company expenses associated with 

the product and the degree of market competition. In developing markups for manufacturers and 

retailers, DOE obtained data about the revenue, CGS, and expenses of firms that sell residential 

microwave ovens. 

6.2 MANUFACTURER MARKUPS

DOE uses manufacturer markups to transform a manufacturer’s production costs into a 

manufacturer sales price. Using the CGS and gross margin, DOE calculated the manufacturer 

markup (MUMFG) with the following equation:
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MFG

MFG MFG

MFG CGS

CGS GM

MU

+ =

Where:

MUMFG = Manufacturer markup,

CGSMFG = Manufacturer’s cost of goods sold or Manufacturer Production Cost 

(MPC), and

GMMFG = Manufacturer’s gross margin.

The manufacturer’s CGS (or MPC) plus its GM equals the manufacturer selling price 

(MSP).

DOE developed an average manufacturer markup by examining the annual Securities and 

Exchange Commission (SEC) 10-K reports filed by four publicly-traded manufacturers primarily 

engaged in appliance manufacturing and whose combined product range includes residential 

refrigeration products.2 The four manufacturers represent a nearly 50 percent market share for 

major appliances. Because these companies are typically diversified, producing a range of 

different appliances, an industry average markup was assumed by DOE to be representative for 

the manufacture of refrigeration products. DOE evaluated markups for the years 2002─2005. 

Table 6.2.1 lists the average corporate gross margin during the years 2002─2005, and 

corresponding markups, for each of the four manufacturers. The average markup value based on 

these four companies is 1.26, which is the value that DOE used. 

Table 6.2.1 Major Appliance Manufacturer Gross Margins and Markups

Mfr A Mfr B Mfr C Mfr D

Average Net Revenues (Million) $372 $280 $4770 $12,682

Corporate Gross Margin 15% 28% 16% 22%

Markup 1.18 1.39 1.19 1.28

Source: SEC 10-K reports (2002-2005)

6.3 RETAILER MARKUP 

6.3.1 Approach for Retailer Markups

DOE based the retailer markups for residential microwave ovens on financial data for 

Electronics and Appliance Stores from the 2002 U.S. Census Business Expenditure Survey 

(BES), which is the most recent available survey.3 DOE organized the financial data into 

statements that break down cost components incurred by firms in this category. DOE assumes 

that the income statements faithfully represent the various average costs incurred by firms selling 

home appliances. Although Electronics and Appliance Stores handle multiple commodity lines, 
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the data for this sector provide the most accurate available indication of expenses for selling 

home appliances.

The BES data provided for Electronics and Appliance Stores only contain total sales and 

detailed operating expenses. In order to construct a complete data set to estimate markups, DOE 

needed to estimate CGS and gross margin. The 1997 Business Expenses Survey provides total 

sales, gross margin and detailed operating expenses of Household Appliance Stores. The CGS 

and gross margin account for approximately 70% and 30% of the total sales, respectively. DOE 

found that gross margin as percent of sales has been roughly constant in this sector from 1993 to 

2007.a

6.3.1.1 Baseline Retailer Markup

 Therefore, DOE assumed that the fractions of CGS and gross margin as percent of sales 

in 2002 are the same as in 1997. Following this assumption, DOE calculated the CGS, gross 

margin and net profit for Electronics and Appliance Stores in the 2002 BES. 

The baseline markup relates the manufacturer sales price of baseline products to the 

retailer sales price. DOE considers baseline models to be equipment sold under existing market 

conditions (i.e., without new energy efficiency standards). DOE calculated the baseline markup 

(MUBASE) for retailers as an average markup using the following equation:

RTL

RTL RTL

BASE CGS

CGS GM MU + =

Where:

MUBASE = Baseline retailer markup,

CGSRTL = Retailer’s cost of goods sold,

GMRTL = Retailer’s gross margin, 

Table 6.3.1 shows the calculation of the baseline retailer markup.

Table 6.3.1 Data for Baseline Markup Calculation: Electronics and Appliance Stores 

(2002)

Kind of business item

Amount 

($1,000)

Sales $83,896,811

Cost of Goods Sold (CGS) $57,888,800

Gross Margin (GM) $26,008,011

Baseline Markup = (CGS+GM)/CGS 1.45

 a

U.S. Census, 2007 Annual Retail Trade Report: Electronics and Appliance Stores Sales and Gross Margin. Gross 

margin as a percent of sales ranges between 25% and 33% over this time period, with an average of 30% and no 

discernible upward or downward trend. 
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Source: U.S. Census, 2002 Business Expenses Survey (for Sales) and 1997 Business Expenses Survey (for CGS and 

GM shares)

6.3.1.2 Incremental Retailer Markup

Incremental markups are coefficients that relate the change in the manufacturer sales 

price of higher-efficiency models to the change in the retailer sales price. DOE considers higherefficiency models to be equipment sold under market conditions with new efficiency standards. 

The incremental markup reflects a situation in which the retailer faces an increase in CGS for a 

particular product due to new or amended standards.

Unfortunately, empirical evidence regarding appliance retailer markup practices when a 

product increases in cost (due to increased efficiency or other factors) is deficient. DOE 

understands that real-world markup practices will vary depending on the market conditions faced 

by retailers, on the magnitude of the change in CGS associated with an efficiency increase and 

on any associated changes in retail costs. Pricing in retail stores may also involve rules of thumb 

that are difficult to identify and to incorporate into DOE’s analysis.

Given the uncertainty about actual markup practices in appliance retailing, DOE uses an 

approach that reflects the following key concepts:

 

1. Changes in the efficiency of the goods sold are not expected to increase economic profits. 

Thus, DOE calculates markups/gross margins to allow cost recovery for retail companies 

in the distribution chain (including changes in the cost of capital) without changes in 

company profit margins. 

2. Efficiency improvements impact some distribution costs but not others. DOE sets 

markups and retail prices to cover the distribution costs expected to change with 

efficiency but not the distribution costs that are not expected to change with efficiency. 

The incremental markup approach is described in more detail in Dale et al (2004).4

To estimate incremental retailer markups, DOE divides retailers’ operating expenses into 

two categories: (1) Those that do not change when CGS increases due to amended efficiency 

standards (“fixed”), and (2) Those that increase proportionately with CGS (“variable”). DOE 

defines fixed costs to include labor and occupancy expenses because these costs are not likely to 

increase as a result of a rise in CGS due to amended efficiency standards. All other expenses, as 

well as the net profit, are assumed to vary in proportion to CGS. Although it is possible that 

some of the other expenses may not scale with CGS, DOE is inclined to take a more conservative 

position and include these as variable costs.b

 

DOE calculated the incremental markup (MUINCR) for retailers using the following 

equation:

 b Note that under DOE’s approach, a high fixed cost component yields a low incremental markup.
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RTL

RTL RTL

INCR CGS

CGS VC MU + =

Where:

MUINCR = Incremental retailer markup,

CGSRTL = Retailer’s cost of goods sold, and

VCRTL = Retailer’s variable costs.

Table 6.3.2 shows the breakdown of operating expenses using the 2002 BES data. DOE 

estimates that the incremental markup is 1.17 for retailers of microwave ovens.
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Table 6.3.2 Data for Incremental Markup Calculation: Electronics and Appliance Stores 

(2002)

Amount 

($1,000)

Sales $83,896,811

Cost of Goods Sold (CGS) $57,888,800

Gross Margin (GM) $26,008,011

Labor & Occupancy Expenses (“Fixed”)

Annual payroll $10,267,605

Employer costs for fringe benefit $1,407,970

Contract labor costs including temporary help $160,094

Purchased utilities, total $427,809

Cost of purchased repair and maintenance services $308,789

Cost of purchased management consulting administrative services and other 

professional services $300,548

Purchased communication services $400,598

Lease and rental payments $2,655,286

Taxes and license fees (mostly income taxes) $385,538

Subtotal: $16,314,237

Other Operating Expenses & Profit (“Variable”)

Expensed computer related supplies $86,751

Cost of purchased packaging and containers $41,866

Other materials and supplies not for resale $611,361

Cost of purchased transportation, shipping and warehousing services $500,233

Cost of purchased printing services $285,012

Cost of purchased advertising and promotional services $1,840,898

Cost of purchased legal services $90,020

Cost of purchased accounting, auditing, and bookkeeping services $86,292

Cost of purchased custom coded original software (expensed) including adaption of 

off-the-shelf software $18,944

Cost of system support design and services including web design $35,748

Cost of insurance $393,201

Cost of data processing and other purchased computer services, except 

communications $41,056

Depreciation and amortization charges $1,229,110

Commissions paid $106,061

Other operating expenses $2,929,906

Cost of contract work $21,955

Net profit before taxes $1,375,360

Subtotal: $9,693,774

Incremental Markup = (CGS+Total Other Operating Expenses and Profit)/CGS 1.17

Source: U.S. Census, 2002 Business Expenses Survey

By dividing expenses into fixed and variable components, the incremental markup 

approach assumes that retailers cover costs changes without changing profit margins. Although 

retailers may be able to obtain higher profits for a time, DOE’s approach assumes that 
6-7

competition in the appliance retail market, combined with relatively inelastic demand (i.e., the 

demand is not expected to decrease significantly with a relatively small increase in price), will 

exert a counterbalancing downward pressure on retailer profit margins. 

To measure the degree of competition in appliance retailing, DOE estimated the four firm 

concentration ratio (FFCR) of major appliance sales in three retail channels: Electronics and 

Appliance Stores, Building and Material and Supplies Dealers, and General Merchandise Stores.

The FFCR represents the market share of the four largest firms in the relevant sector. Generally, 

an FFCR of less than 40% indicates that the sector is not concentrated and an FFCR of more than 

70% indicates that a sector is highly concentrated.c d

The FFCR of sub-sector appliance sales within each channel is equal to the sector FFCR 

times the percent of total sales within each channel accounted for by major appliances. As shown 

in Table 6.3.3, the results indicate that appliance sales in Electronics and Appliance Stores, 

Household Appliance Stores, Building Material Supplies Dealers and General Merchandise 

Stores have a FFCR well under the 40% threshold. Moreover, the Electronics and Appliance 

Stores sector includes “Household Appliance Stores” as a subsector. Because there are many 

stores in this subsector, it has a FFCR of only 16.8%. 

Table 6.3.3 Electronics and Appliance Stores, Concentration by Four Large Firms

Sector

Four Firm 

Concentration Ratio

(Percent of Sector Sales)

Percent of Sales 

Accounted for by 

Major Appliances

Four Firm 

Concentration Ratio

(Percent of Major 

Appliance Sales)

Electronics and Appliance 

Stores 44.3 39.4 17.5

Household Appliance 

Stores subsector 16.8 - -

Building Material and 

Supplies Dealers 36.7 15.8 5.8

General Merchandise 

Stores 65.6 35.4 23.2

Sources: U.S. Economic Census, Establishment and Firm Size: Concentration by Largest Firms for the United States 

2002; U.S. Economic Census, Product Lines: Kings of Business by Broad Product Line, 2002.

*Note: The assumption used here is that major appliance sales are uniformly distributed within all firms in each 

sector. 

 c University of Maryland University College

http://info.umuc.edu/mba/public/AMBA607/IndustryStructure.html

d Quick MBA

http://www.quickmba.com/econ/micro/indcon.shtml
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6.4 SALES TAXES

The sales tax represents state and local sales taxes that are applied to the consumer 

equipment price. The sales tax is a multiplicative factor that increases the consumer equipment 

price.

DOE derived state and local taxes from data provided by the Sales Tax Clearinghouse.

5

 

DOE derived population-weighted average tax values for each Census division and large state, as 

well as the U.S. population-weighted average tax of 7.2% (Table 6.4.1).

Table 6.4.1 Average Sales Tax Rates by Census Division and Large State

Census Division/State Tax Rate

New England 5.5%

Mid Atlantic 6.6%

East North Central 6.9%

West North Central 6.9%

South Atlantic 6.4%

East South Central 7.9%

West South Central 8.4%

Mountain 6.5%

Pacific 5.2%

New York State 8.5%

California 9.2%

Texas 8.1%

Florida 6.7%

U.S. Average 7.2%

6.5 SUMMARY OF MARKUPS

Table 6.5.1 summarizes the markups at each stage in the distribution channel and the 

average sales tax.

Table 6.5.1 Summary of Markups

Markup Baseline Incremental

Manufacturer 1.26

Retailer 1.45 1.17

Sales Tax 1.072

Total 1.96 1.58
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REFERENCES

 1 Association of Home Appliance Manufacturers. AHAM 2003 Fact Book, 2003. Washington, 

DC. p. 25.

2 Security Exchange Commission, SEC 10-K Reports, Various dates, 2002-2005, Security 

Exchange Commission. <http://www.sec.gov/> 

3 U.S. Census Bureau. 2002 Economic Census, Business Expenses Survey, Retail Trade, 

Household Appliance Stores, 2002. Washington, DC. 

<http://www.census.gov/csd/bes/bes97.htm>

4 Dale, Larry et al., “An Analysis of Price Determination and Markups in the Air-Conditioning 

and Heating Equipment Industry”, LBNL-52791, January 2004. 

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 Sales Tax Clearinghouse, Inc. State sales tax rates along with combined average city and 

county rates. <http://thestc.com/STrates.stm>