Definition
Margin is a versatile term in accounting and finance with several applications. Here are its primary definitions:
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Profit Margin: The profit margin on the sale of goods or services, typically expressed as a percentage of revenue. There are different types of profit margins:
- Gross Profit Margin: Gross profit as a percentage of revenue.
- Net Profit Margin: Net profit as a percentage of revenue.
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Market Maker Margin: The difference between the prices at which a market maker or commodity dealer buys and sells an asset. Colloquially known as a “haircut.”
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Banking Interest Margin: The difference between the interest rates a bank charges on loans lent and the interest rates it offers on deposits.
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Securities Margin: Money or securities deposited with a stockbroker to cover potential losses a client might incur.
Examples
Example 1: Profit Margin
- Gross Profit Margin: If a company has a gross profit of $50,000 and revenue of $100,000, the gross profit margin is 50%.
- Net Profit Margin: If the same company has a net profit of $20,000, its net profit margin is 20%.
Example 2: Market Maker Margin
- A market maker buys a stock at $100 and sells it at $105. The margin is $5, often referred to as the spread or “haircut.”
Example 3: Banking Interest Margin
- A bank offers savings accounts with an interest rate of 1% but offers personal loans at an interest rate of 6%. The banking interest margin is 5%.
Example 4: Securities Margin
- An investor typically needs to deposit an initial margin before trading on margin, allowing them to borrow funds from the broker to purchase securities.
Frequently Asked Questions (FAQs)
What is a good profit margin percentage?
A good profit margin percentage varies by industry, but generally, a higher profit margin indicates a more profitable company. Gross profit margins above 50% and net profit margins above 10% are typically desirable.
How do banks benefit from interest margins?
Banks earn profit through the interest margin by borrowing at lower interest rates (via customer deposits) and lending at higher interest rates (via loans and mortgages).
Can margin trading lead to unlimited losses?
Yes, margin trading can lead to significant losses if investments decline in value, potentially reaching or exceeding the initial deposit if no stop-loss measures are in place.
What is a margin call?
A margin call occurs when the value of an investor’s margin account falls below the broker’s required amount, prompting the investor to deposit additional funds or sell assets to cover the shortfall.
Related Terms
- Gross Profit: Revenue minus the cost of goods sold (COGS).
- Gross Profit Percentage: Gross profit expressed as a percentage of revenue.
- Net Profit: The actual profit after operating expenses, taxes, interest, and other costs have been deducted from total revenue.
- Net Profit Percentage: Net profit expressed as a percentage of revenue.
- Contribution Margin: Sales revenue minus variable costs.
- Mark-Up: The percentage added to the cost price to determine the selling price.
- Market Maker: An entity that quotes both buy and sell prices in a financial instrument or commodity, hoping to make a profit on the bid-offer spread.
Online References
- Investopedia on Profit Margin
- Investopedia on Market Makers
- Investopedia on Interest Margin
- Investopedia on Margin Trading
Suggested Books for Further Studies
- Financial Accounting by Robert Libby
- Intermediate Accounting by Donald E. Kieso, Jerry J. Weygandt, and Terry D. Warfield
- Principles of Corporate Finance by Richard A. Brealey, Stewart C. Myers, and Franklin Allen
- Security Analysis by Benjamin Graham and David Dodd
Accounting Basics: “Margin” Fundamentals Quiz
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