What it means
Markdowns are the mechanism retailers and other product businesses use to clear inventory that has become slow-moving, seasonal, damaged or simply overstocked. Rather than let goods sit on shelves tying up cash, a business cuts the price until demand appears.
Every markdown eats directly into gross margin, because the cost of the item does not change when the price does. That makes markdowns one of the most closely watched numbers in retail finance, sitting alongside sales growth and stock turnover in weekly trading reviews.
Businesses distinguish between planned markdowns, which are budgeted from the start for end-of-season clearance, and unplanned markdowns, which happen because buying decisions went wrong. A rising unplanned markdown rate is usually a signal that the buying team over-ordered or misread demand.
Markdowns also come in different shapes. A permanent markdown resets the ticket price for good, while a promotional markdown is temporary and the price returns afterwards; some retailers also run staged markdowns that deepen week by week until the stock clears.
The subtle trap is training customers to wait. If shoppers learn that everything gets marked down eventually, full-price sales fall, and the business ends up needing even bigger markdowns to move the same volume.
In practice
Real-world examples
Example 1
A garden centre marks down all summer furniture by 40% in September because storing it over winter would cost more than the lost margin. The clearance frees floor space for Christmas stock, which carries a much higher margin.
Example 2
An electronics chain cuts $100 off last year's laptop model the week a new version lands. The markdown protects the retailer from being left with obsolete stock that would need an even deeper cut in three months.
Example 3
A grocery chain applies a 50% markdown on fresh bakery items after 6pm each day. The margin loss is accepted because the alternative is throwing the goods away and recovering nothing at all.
Think of it
A markdown is like a fresh produce market lowering the price of fruit at the end of the day. It is better to sell the apples at half price than to throw them away at closing time.
Formula
Calculation
Markdown amount = original selling price - reduced selling price
Markdown percentage = markdown amount / original selling price x 100
A clothing retailer prices a winter jacket at $80 and buys it in at a cost of $40. By late January, 500 jackets are still unsold, so the price is cut to $56.
Markdown amount = $80 - $56 = $24 per jacket
Markdown percentage = $24 / $80 x 100 = 30%
Selling all 500 jackets at the reduced price brings in 500 x $56 = $28,000, against 500 x $80 = $40,000 at full price, so the retailer gives up $12,000 of revenue. Gross profit per jacket falls from $80 - $40 = $40 to $56 - $40 = $16, which is a margin of $16 / $56 = 28.6% instead of the original 50%. Across the 500 units, gross profit drops from $20,000 to $8,000, and that $12,000 gap is exactly the markdown cost.Case study
Seen in the real world
Thornwick Home Goods is a fictional homeware retailer created purely to illustrate how markdown discipline works. Thornwick's buying team ordered 12,000 sets of patterned ceramic tableware at a cost of $18 a set, planning to sell them at $45. Sales stalled at 4,000 sets, leaving 8,000 in the warehouse.
The team ran a staged markdown: 20% off in week one, which shifted 2,000 sets at $36, then 40% off in week three, which cleared the remaining 6,000 at $27. Revenue from the marked-down stock came to 2,000 x $36 plus 6,000 x $27, which is $72,000 plus $162,000, or $234,000, against a cost of 8,000 x $18 = $144,000. Thornwick still made $90,000 of gross profit on the clearance, but far below the $216,000 the same 8,000 sets would have produced at full price.
The lesson the illustrative board took away was not about pricing at all. It was that the original order quantity had been set on optimism rather than on the previous season's sell-through data, and the markdown was simply the bill for that decision arriving late.
Watch out
Common mistakes
- Calculating the markdown percentage against the reduced price rather than the original. The original price is always the base, so a cut from $80 to $56 is a 30% markdown, not 43%.
- Confusing markdown with markup. Markup is added to cost to reach a selling price, while markdown is taken off an established selling price.
- Treating all markdowns as failure. Planned seasonal markdowns are part of a healthy trading calendar and are budgeted for in advance.
Questions
People also ask
When should a business mark down rather than hold stock?
Once the carrying cost, the storage, the cash tied up and the risk of the item going out of date, outweighs the margin being given away.
Does a markdown affect the value of stock on the balance sheet?
Yes, inventory should be carried at the lower of cost and net realisable value, so a deep markdown can force a write-down.
How do retailers keep markdowns under control?
Mostly through tighter buying, faster reordering in small batches and weekly sell-through reporting that flags slow lines before they age.