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CHAPTER 6. MARKUPS FOR EQUIPMENT PRICE DETERMINATION

TABLE OF CONTENTS

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

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

6.1.2 Procedure for Calculating Markups................................................................................. 6-1

6.2 MANUFACTURER MARKUPS .................................................................................... 6-2

6.3 RETAILER MARKUPS.................................................................................................. 6-2

6.3.1 Approach to Calculating Retailer Markups ..................................................................... 6-2

6.3.2 Derivation of Retailer Markups....................................................................................... 6-5

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

6.5 SUMMARY OF MARKUPS .......................................................................................... 6-7

LIST OF TABLES

Table 6.3.1 Four-Firm Concentration Ratio for Major Appliance Sales in Three Retail 

Channels............................................................................................................... 6-5

Table 6.3.2 Data for Calculating Baseline Markup: Electronics and Appliance Stores......... 6-5

Table 6.3.3 Data for Calculating Incremental Markup: Electronics and Appliance 

Stores.................................................................................................................... 6-6

Table 6.4.1 Average Sales Tax Rates by RECS Region......................................................... 6-7

Table 6.4.2 Average Sales Tax Rates by CBECS Region ...................................................... 6-7

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

6.1 INTRODUCTION

To carry out the life-cycle cost (LCC) calculations described in chapter 8 of this technical 

support document (TSD), the U.S. Department of Energy (DOE) had to determine the cost 

consumers will pay for portable air conditioners (ACs). The cost is determined for both baseline 

products and more efficient products that consumers would purchase following the promulgation 

of any new or amended energy conservation standards for portable ACs. The manufacturer 

selling price (MSP) for both baseline and more efficient products is determined in the 

engineering analysis (chapter 5 of this TSD). By applying a multiplier called a markup to the 

MSP, DOE can estimate the purchase price of the product after it travels through its distribution 

channel to the retailer. This chapter describes how DOE derived markups for both manufacturers 

and retailers.

6.1.1 Distribution Channels

The appropriate markups for determining consumer product prices depend on the type of 

distribution channel(s) through which the product moves from manufacturer to consumer. At 

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

business costs and profit margin. Almost all portable ACs are purchased for residential use, 

although DOE estimates that perhaps one percent are used in a commercial setting.

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

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

unaware of any other distribution channel that plays a significant role for portable ACs, DOE 

assumed that consumers purchase all portable ACs, whether destined for residential or 

commercial application, from retail outlets. DOE considered portable ACs purchased for the 

replacement market and by first-time owners or owners who purchase an additional unit, but did 

not consider the new construction market, because DOE found no information to indicate the 

extent, if any, to which builders install the products in new construction.

6.1.2 Procedure for Calculating Markups

As noted above, companies at each point in the distribution channel mark up the price of 

a product to cover their business costs and profit margin. In financial statements, gross margin 

(GM) is the difference between a company's revenue and its cost of sales, or cost of goods sold 

(CGS). The GM of companies throughout the distribution channel includes expenses such as 

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

expenses; depreciation; taxes—and company profits. To cover costs and to contribute positively 

to company cash flow, the price of a product must include a markup. Products command lower 

or higher markups depending on company expenses associated with the product and the degree 
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of market competition. In developing markups for manufacturers and retailers, DOE obtained 

data about the revenue, CGS, and expenses of firms that produce and sell portable ACs.

6.2 MANUFACTURER MARKUPS

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

MSP. Applying the CGS and GM, DOE calculated the manufacturer markup using the following 

equation.

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 publicly available 

financial information, including Securities and Exchange Commission (SEC)210-K reports for

manufacturers of major household appliances having product offerings that include portable 

ACs. DOE determined the weighted-average manufacturer markup for portable ACs to be 1.42.

The method for deriving manufacturer markups is described in more detail in the engineering 

analysis (chapter 5).

6.3 RETAILER MARKUPS

This section presents the approach and equations DOE used to calculate retailers' 

markups on portable ACs (both markups on baseline products and incremental markups on 

higher-efficiency products). The section also presents the retailer markups DOE calculated.

6.3.1 Approach to Calculating Retailer Markups

DOE based retailer markups for portable ACs on financial data for electronics and 

appliance stores from the 2007 U.S. Census Annual Retail Trade Survey (ARTS),

3 which is the 

most recent survey that includes detailed industry-wide operating expenses for that economic 

sector. DOE organized the financial data into statements that break down cost components 

incurred by firms within the sector containing electronics and appliance stores. DOE assumes 

that the income statements faithfully represent the various average costs incurred by firms selling 
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home appliances. Although electronics and appliance stores handle multiple commodity lines, 

the data provide the best available indication of expenses associated with selling portable ACs.

The baseline markup converts the MSP of baseline products to the retailer's sales price. 

DOE considers baseline products to be those sold under current market conditions (i.e., without 

new energy conservation standards). DOE used the following equation to calculate an average 

baseline markup for retailers.

MUBASE =

CGSRTL + GMRTL

CGSRTL

Where:

MUBASE = retailer’s baseline markup,

CGSRTL = retailer’s cost of goods sold (CGS), and

GMRTL = retailer’s gross margin (GM). 

Incremental markups are coefficients that relate the change in the MSP of higherefficiency models to the change in retailer sales price. DOE considers higher-efficiency models 

to be products sold under potential new efficiency standards. The incremental markup reflects 

the retailer’s increase in a product’s CGS because of new standards.

There are few empirical data describing appliance retailer practices regarding markups 

taken in response to a product’s cost increase (whether due to increased efficiency or other 

factors). DOE understands that real-world markup practices vary depending on the market 

conditions that retailers face and on the magnitude of the change in CGS. Pricing in retail stores 

also may involve rules of thumb that are difficult to quantify and to incorporate into DOE’s 

analysis. Given the uncertainty about markup practices in appliance retailing, DOE’s approach 

reflects the following key assumptions.

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

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

companies in the distribution channel (including changes in the cost of capital) but 

not changes in company profits. 

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

markups and retail prices to incorporate those distribution costs expected to change 

with efficiency, but not those that are not expected to change with efficiency.

The approach to calculating incremental markups is described in more detail in Dale and 

Fujita, 2004.

4 To estimate incremental retailer markups, DOE divided retailers’ operating 

expenses into two categories: (1) those that do not change when CGS increases because of new

efficiency standards (invariant), and (2) those that increase proportionately with CGS (variant). 

DOE defines invariant costs as labor and occupancy expenses, because those costs likely will not 

increase because of a rise in CGS. All other expenses, as well as net profit, are assumed to vary 

in proportion to CGS. Although some other expenses may not scale with CGS, DOE takes a 
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conservative position that considers other expenses to be variant costs. Note that, under DOE’s 

approach, a high fixed cost component yields a low incremental markup.

DOE used the following equation to calculate the incremental markup retailers might

apply to higher-efficiency products.

MUINCR =

CGSRTL + VCRTL

CGSRTL

Where:

MUINCR = retailer’s incremental markup,

CGSRTL = retailer’s cost of goods sold, and

VCRTL = retailer’s variant costs.

In developing incremental markups, DOE envisions that retailers cover costs without 

changing profits. Although retailers may be able to reap higher profits for a time, DOE’s 

approach assumes that competition in the retail appliance market, combined with relatively 

inelastic demand (i.e., the demand is not expected to decrease significantly in response to a 

relatively small increase in price), will tend to pressure retail margins back down. 

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

concentration ratio (FFCR) of major appliance sales for three retail channels: electronics and 

appliance stores, building materials and supplies dealers, and general merchandise stores.

The FFCR represents the market share of the four largest firms in a given sector. Generally, an 

FFCR of less than 40 percent indicates that a sector is not concentrated; an FFCR of more than 

70 percent indicates that the sector is highly concentrated.a, b

The FFCR of appliance sales for each retail channel is equal to the sector FFCR times the 

percent of total sales within that channel accounted for by major appliances. As shown in Table 

6.3.1, appliance sales in electronics and appliance stores, building materials and supplies dealers, 

and general merchandise stores have a FFCR less than the 40-percent threshold. The electronics 

and appliance stores sector includes a subsector titled “household appliance stores.” Because that 

subsector includes numerous stores, it has a FFCR of 21.3 percent.

 

a University of Maryland University College. (Last accessed September 7, 2014.) 

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

b Quick MBA. (Last accessed September 7, 2014.) <http://www.quickmba.com/econ/micro/indcon.shtml>.
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Table 6.3.1 Four-Firm Concentration Ratio for Major Appliance Sales in Three Retail 

Channels 

Sector FFCR % of 

Sector Sales

Percent of Sales 

Accounted for by 

Major Appliances %

FFCR

% of Major 

Appliance Sales

Electronics and appliance 

stores

46.3 42.1 19.5

Subsector: household 

appliance stores 21.3 37.1 7.9

Building materials and 

supplies dealers 45.9 17.0 7.8

General merchandise stores 73.2 31.6 23.1

Source: U.S. Economic Census. Establishment and Firm Size (Including Legal Form of Organization). 2007.

*Note: It is assumed that major appliance sales are uniformly distributed within all firms in each sector.

6.3.2 Derivation of Retailer Markups

The 2007 ARTS data for electronics and appliance stores include total sales data and 

detailed operating expenses.3 To construct a complete data set for estimating markups, DOE 

needed to estimate CGS and GM for the stores. The most recent (2011) ARTS publishes a 

separate document containing historical sales and gross margin from 1993 to 2011 for electronics 

and appliance stores. DOE took the GM as a percent of sales reported for 2007 and combined 

that percent with 2007 ARTS data to construct a complete income statement for electronics and 

appliance stores to estimate both baseline and incremental markups. Table 6.3.2 shows DOE's 

calculation of the baseline retailer markup.

Table 6.3.2 Data for Calculating Baseline Markup: Electronics and Appliance Stores

Business Item Amount $1,000,000

Sales 110.673

Cost of goods sold (CGS) 81.234

Gross margin (GM) 29.439

Baseline markup = (CGS+GM)/CGS 1.36

Source: U.S. Census Bureau. 2007 Annual Retail Trade Survey.

Table 6.3.3 shows the breakdown of operating expenses for electronics and appliance 

stores based on the 2007 ARTS data. The incremental markup is calculated as 1.11.
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Table 6.3.3 Data for Calculating Incremental Markup: Electronics and Appliance Stores 

Business Item Amount 

$1,000,000

Sales 110,673

Cost of goods sold 81,234

Gross margin 29,439

Labor & Occupancy Expenses (invariant)

Annual payroll 11,714

Employer costs for fringe benefit 1,829

Contract labor costs, including temporary help 154

Purchased utilities, total 623

Cost of purchased repair and maintenance services 369

Cost of purchased professional and technical services 1,164

Purchased communication services 396

Lease and rental payments 3,576

Taxes and license fees (mostly income taxes) 619

Subtotal 20,444

Other Operating Expenses & Profit (variant)

Expensed equipment 114

Cost of purchased packaging and containers 68

Other materials and supplies not for resale 502

Cost of purchased transportation, shipping, and warehousing services 606

Cost of purchased advertising and promotional services 2,625

Cost of purchased software 159

Cost of data processing and other purchased computer services, except 

communications + commissions paid 368

Depreciation and amortization charges 1,525

Other operating expenses 2,070

Net profit before tax (operating profit) 958

Subtotal 8,995

Incremental Markup = (CGS + Total Other Operating Expenses and 

Profit)/CGS 1.11

Source: U.S. Census Bureau. 2007 Annual Retail Trade Survey (for sales), and 2011 Annual Retail Trade Survey.

DOE applied the same baseline and incremental retail markups for both residential and 

commercial applications because the portable ACs for both go through the same distribution 

channel.

6.4 SALES TAXES

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

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

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

5 DOE 
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then derived population-weighted average tax values for each region identified for the 

Residential Energy Consumption Survey (RECS)6and the Commercial Buildings Energy 

Consumption Survey (CBECS).

7 DOE applied those population-weighted average tax values to 

residential and commercial applications, respectively, as shown in Table 6.4.1 and Table 6.4.2.

Table 6.4.1 Average Sales Tax Rates by RECS Region

Census Division/State Population (2019)

Tax Rate (2014)

%

New England 15,309,528 5.69

Middle Atlantic 22,248,989 6.60

East North Central 48,208,733 6.90

West North Central 21,246,442 7.08

South Atlantic 45,035,501 6.06

East South Central 18,978,828 8.02

West South Central 11,515,069 8.69

Mountain 25,557,049 6.45

Pacific 13,879,323 5.30

New York 19,576,920 8.45

California 42,206,743 8.40

Texas 28,634,896 7.95

Florida 23,406,525 6.65

Population-Weighted Average 7.10

Table 6.4.2 Average Sales Tax Rates by CBECS Region

Census Division/State Population (2019)

Tax Rate (2014)

%

New England 15,309,528 5.63

Middle Atlantic 41,825,909 7.47

East North Central 48,208,733 6.88

West North Central 21,246,442 7.10

South Atlantic 68,442,026 6.26

East South Central 18,978,828 8.04

West South Central 40,149,965 8.16

Mountain 25,557,049 6.54

Pacific 56,086,066 7.63

Population-Weighted Average 7.10

6.5 SUMMARY OF MARKUPS

Table 6.5.1 summarizes the markups at each stage in the distribution channel for portable 

ACs, starting with the manufacturer, and then applies the average sales tax to arrive at overall 

markups.
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Table 6.5.1 Summary of Markups

Residential Application Commercial Application

Markup Baseline Incremental Baseline Incremental

Manufacturer 1.42 1.42

Retailer 1.36 1.11 1.36 1.11

Sales Tax 1.071 1.071

Overall 2.07 1.69 2.07 1.69
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REFERENCES

 

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

Washington, D.C.

2. U.S. Security and Exchange Commission (SEC). SEC 10-K Reports. 2008–2012. U.S. 

Security and Exchange Commission, Washington, D.C.

3. U.S. Census Bureau. 2007 Annual Retail Trade Survey, Electronics and Appliance 

Stores. 2007. U.S. Census Bureau, Washington, D.C.

4. Dale, L., and K. Fujita. An Analysis of Price Determination and Markups in the AirConditioning and Heating Equipment Industry. January 2004.

5. Sales Tax Clearinghouse, I. State Sales Tax Rates Along with Combined Average City 

and County Rates. [cited 2014 July 18.] Available from: http://thestc.com/STrates.stm.

6. U.S. Department of Energy–Energy Information Administration. Residential Energy 

Consumption Survey. 2009. [cited 2011 May.] Available from: 

http://www.eia.gov/consumption/residential/data/2009/.

7. U.S. Department of Energy–Energy Information Administration. Commercial Building 

Energy Consumption Survey (CBECS). 2003. (Last accessed September 8, 214.) 

<http://www.eia.gov/consumption/commercial/data/2003/>.