A Closer Look At Markdowns

A simple definition of markdowns is the difference between the original retail price and the actual selling price. Markdown dollars are calculated by subtracting the Actual Selling Price from the Original Selling Price. Markdown percent is Markdown dollars divided by Actual Sales Dollars.

The National Retail Merchants Association adds a bit more to the definition. They define a markdown as “a reduction in the originally marked retail price of merchandise, primarily taken for clearance of poor selections, broken assortments, prior stock, for special sales events, and to meet competition.” Markdowns may be permanent or temporary. Generally, a temporary Markdown is called a Point of Sale Markdown and handled at the point of sale. It is only taken when there is a sale. This type of markdown would include 4th of July or Back to School “sales”. If, however, the retailer made a mistake and bought too large of an assortment of umbrellas and raingear and the area suffered a drought, these items might receive a permanent Markdown as the value is reduced permanently and the goal is to turn the merchandise into cash and get it out of the store as quickly as possible. If the permanent Markdown is removed or cancelled at some later date, the retail price reverts to original selling price; the resulting amount is called a Markdown cancellation, not a markup.

In the retail world, Markdowns may not be liked but they cannot be avoided. They are a fact of doing business. Colors or styles unpopular with your customers will only move with significant Markdowns. Of course, any time you take a “deal” and purchase three year’s inventory of socks (for example), you are taking a huge chance. What if a new fiber is introduced or a new color or design becomes all the rage and your entire sock budget is tied up in what was bought last year. If you really want to know if you have made a poor buying choice, study your Markdowns.

Over-buying is the #1 cause of excessive Markdowns. However, stores don’t go out of business due to high Markdowns. They go out of business because they can’t move the merchandise quickly enough to bring in the required cash to meet their obligations. Stores suffering from cash flow problems may have difficulty paying their vendors on time. And how many employees will work without receiving their paycheck in a timely manner?

Also, keep in mind, the cost of an item has nothing to do with the Marked down price. Customers do not care how much the buyer paid for the merchandise. When it comes to sales and merchandise choices, a professional buyer’s only concern should be how quickly the inventory will convert to cash. Sometimes mistakes are made and those “really cute hats” that the buyers knew would sell like hot cakes don’t. Sometimes, the only person who just loves those hats is the buyer and vendor who sold them.

From time to time, stores are reluctant to take large Markdowns and in some cases even refuse to mark anything down below cost. The idea is that money may be lost when in reality much more is at stake by not getting cash out of slow selling stock and replacing it with new product. The only thing worse is storing merchandise year after year just to bring items out next season. Your regular customers know when you bring out the same merchandise over and over.

Generally, those Markdowns relating to the customer-education factor (or just plain old over-buying) will be permanent Markdowns. These Markdowns may be referred to as “backroom” Markdowns, “bulk” Markdowns or “permanent” Markdowns. These Markdowns serve to devalue the inventory for reporting purposes decreasing both insurance and taxes (if applicable) if you are using the Retail Inventory method to value your inventory. Remember, the Markdown can be reversed if the circumstances change.

On the other hand, Markdowns intended to stimulate sales throughout the store are usually called temporary Markdowns or Point Of Sales Markdowns. These are taken when the item sells and do not devalue all inventory in that class.

The better method of assigning value to inventory is the Retail Inventory Method. It allows for slow moving items to receive a permanent Markdown in both cost and retail because the value of the merchandise has decreased. This permanent Markdown helps by saving money on both insurance and taxes. When using the Cost Inventory Method or only using Point Of Sale Markdowns, Markdowns are only taken when a sale transaction takes place. Additionally, the Cost Inventory Method serves to encourage comparison of net sales to Balance Sheet Inventory. The problem with that comparison is that Sales are at Retail and Inventory is at Cost. When making such a comparison, an owner may say, “My sales are $500,000 and my Inventory is $250,000; I’m doing okay.” Actually, Inventory at Cost should be about 40% of Net Sales to allow for an adequate Mark Up and any Markdowns planned for.

Now, consider how many classifications in a store may be in this same condition. When this situation is multiplied over several classifications, the difference can be major. Who wouldn’t enjoy paying less for insurance and property taxes? This will have the most impact at the end of the year when reporting inventory values for property tax valuation. You may say the end result is virtually the same, but consider 3 months of savings in inventory cost. The true savings comes in early recognition of the error and taking that permanent markdown as soon as the mistake is discovered.

In closing, the following is a list of potential reasons for markdowns from Retail Merchandise Management by John Wingate, Elmer Schaller and Leonard Miller.

Markdowns from Overbuying

Failing to plan sales by class
Failing to buy in small experimental quantities prior to placing large orders
Buying more goods than needed in view of stock on hand and planned sales
Buying the wrong styles, colors fabrics or sizes
Poor scheduling of deliveries
Overdependence on a few “pet” resources
Failure to examine incoming merchandise for quality control

Markdowns from Poor Pricing

Setting initial mark-up too high
Setting initial markup too low so customers are suspicious of the value
Failure to check competitors prices for same or similar merchandise
Deferring price reductions too long
Making first Markdown too small–a 10% or 15% markdown does not mean much today

Selling Errors leading to Markdowns

Poor display of merchandise on the sales floor
Failure to educate sales staff about merchandise
Careless handling of merchandise
High pressure selling leading to high returns

Sales policies leading to Markdowns

Meeting price competition
Having special sales of regular stock
Using special sales of promotional merchandise leading to promotional remainders
Maintaining complete assortment through most of the season
Having large markups coupled with large markdowns to exploit the comparative price appeal
Taking premature markdowns
Policy of carry-over
Giving away free samples to customers

This article was written by Linda Carter, President of The Retail Management Advisors, a retail consulting firm whose mission is to help independent retailers survive and thrive. With more than 30 years experience helping independent retailers, she has the experience to help you too.

Initial Mark Up and Gross Margin

What is Initial Markup?

Initial Markup (IMU) is the difference between the cost and selling price of an item when it is first introduced for sale. It is also called Initial Mark On, Markon or Markup. The formula for this calculation is: Selling price – cost = Initial Markup Dollars. If a buyer brings in a new line of jeans with a cost of $25 per pair and initially prices them to sell at $55 per pair, the Initial Markup is $30.

Selling Price – Cost = Initial Mark Up Dollars

Initial Markup is normally expressed as a percent. The Initial Mark Up %, for the above example, based on the retail selling price, is 55% (calculated as $30 / $55). The IMU% should always be based on retail dollars, not cost dollars as some retailers and software programs too often do. After all, you own a retail store and record sales at retail. Your sales goals are expressed in retail dollars. Plus, net sales, at retail, are used as the basis for expressing account amounts from the financials (For example, what percent is your Occupancy Costs actually means what percent of your net retail sales are dedicated to Occupancy costs.). Use RETAIL.

An initial retail price must obviously cover the cost of the item, and any selling expense associated with the item. It also must cover a portion of the store’s day to day expenses for rent, fixtures, insurance, utilities, etc., also known as overhead, as well as leave you some profit. Stated another way, Initial Markup must be enough to cover Planned Markdowns + Planned Profits + Selling and Overhead Expenses. The Selling Price covers all that plus the cost of the item.

What is Gross Margin?

Gross Margin (also called Maintained Margin or just Margin) is related to actual sales. It is expressed as a percent of Net Sales. Gross Margin is the difference between Sales and Cost of Goods Sold. (Net Sales – Cost of Goods Sold = Gross Margin Dollars.) Gross Margin is always based on Net Sales and is always expressed from a retail viewpoint. Initial Markup addresses the aspect of price for merchandise: “How much can I get for this ___________?” Gross Margin answers the question: “How much did I make on this __________?”

Impacts on Initial Markup % and Gross Margin %

Many factors affect how retailers decide just how much Initial Markup will provide the best return on their investment. Things that affect Initial Markup are Brand, Competition, Market Saturation, anticipated Markdowns and perceived customer value to name a few. Perceived value is often most difficult to pin down. Occasionally there are certain labels that seem to perform magic when it comes to moving merchandise. A perfect example-Tickle Me Elmo (Tyco) in 1996-was a slow seller until being featured on an afternoon talk show. “In the weeks leading up to Christmas, Tickle Me Elmo dolls were in such scarce supply that ads cropped up in newspapers asking for as much as $2000 per doll.” The Brands (both the talk show and Elmo) were magic. Competition kept the prices up. Low Supply kept the market from becoming saturated. But, customer perceived value kept the prices unbelievably high.

Another major impact is Markdowns. No matter what your Initial Markup is, if it isn’t great enough to cover your planned markdowns and expenses, you will give up your profit to make the sale. When an item doesn’t move, most over-worked and stressed out retailers will take the path of least resistance, and take a larger markdown and keep taking those markdowns until the offending merchandise is gone. Some will keep the poor seller, hoping for the one customer who will come in “someday” and purchase that saved item… if that customer ever arrives and if you can find the item when he does. If Markdowns are higher than anticipated, net sales will be lower, and therefore, gross margin, a.k.a. Maintained Margin, or just Margin, will also be less. Brand, competition, market saturation and perceived customer value also affect Gross Margin–just like Initial Markup.

The Finer Points of IMU% and Gross Margin

It does not follow that each class of merchandise will realize the same IMU % or the same Gross Margin %. Each class and each style within a class (or category) is as unique as each vendor. Competition, pricing structure and perceived customer value may make it necessary to deviate considerably in actual IMU% and GM, but make a point to plan for your profit as well as you plan sales, markdowns or expenses. You want to make sure that you are achieving your Gross Margin plan at the store level, even though some classes may fall far short. The Gross Margin for other classes needs to be high enough to make up the difference for the lower performing classes.

For example, if your Initial Mark Up is 58% and you plan a 9.5% Markdown rate with a goal to maintain a 54% Gross Margin, you can use a “cost multiplier” of 2.40 to achieve your goal. The Cost Multiplier is a number you can multiply the merchandise cost by to achieve the desired Gross Margin percent. An item that Costs $20 will carry an Initial Price (Cost + Initial Mark Up) of $48 when using the 2.40 cost multiplier. If you plan Markdowns of 35% and require a Gross Margin of 54%, merchandise will carry a 66% IMU, using a Cost Multiplier of 2.95 to achieve the same 54% Gross Margin.

Markdowns do not affect IMU% after the initial price is set. The Initial Markup is what it is. However, Markdowns have a huge effect on Gross Margin %. Markdowns decrease profit. It doesn’t matter how much an item is marked up, if it must be marked down those markdowns come from your Gross Margin. Of course, the reverse is also true. When you bring in that unique item that your customers must have, you may not need to take planned markdowns. Then you get to enjoy your higher profit.

Ways to Increase IMU% and GM

Of course, you can just raise your IMU%, but if you raise it too much above the competition, you will lose sales. If you sell popular items that your customers feel a need to own, you may have lower than planned markdowns resulting in a higher Gross Margin. Another good way to boost both the IMU% and the GM is to make a practice of holding some money back from your Open-To-Buy when shopping and plan to rely on some in-season purchases to see you through. Generally, in-season purchases delivered immediately allow for a higher IMU% because you pay less for them.

Another thing we recommend is joining a Buying Group. Buying Groups have benefits for their members to save them time and money. Also, when you go to market, look for a new vendor or two to try. Generally, your customers value individuality as much as you. Give them some items to pick from that set you apart from the pack when possible.

If you feel there is little excitement for your inventory or it is developing “sameness” in appearance, try a different market. All vendors do not go to every market and by going to a new market you may be able to find just what you want. New vendors may offer a unique appearance in color, fit or style that appeals to your customers. Look for merchandise keeping with your quality line that offers a higher markup.

Using an Open-to-Buy is a great way to plan, record your actual results and then check yourself to see how you are doing as the year progresses. It can also help to prevent the high markdowns needed to clear out excess inventory.

This article was written by Linda Carter, President of The Retail Management Advisors, a retail consulting firm whose mission is to help independent retailers survive and thrive. With more than 30 years experience helping independent retailers, she has the experience to help you too.

Wholesale Shipping From China Simplified

China is one of the largest markets for cross-border commerce. While China enjoys a steady stream of demand, some US retailers are wary to jump on the bandwagon for fear of slow, order lead times. To help interested retailers procure Chinese wholesale, this article summarizes some commonly used shipping methods.

Wholesale Order Lead Time
Order lead time is defined as the time which elapses between the receipt of the customer’s order and the delivery of the goods, according to the International Journal of Operations and Production Management. This means that order lead time is composed of processing time and shipping time. Processing time is the time it takes the distributor to acquire and prepare a customer’s merchandise. Shipping time is the time it takes for the order to arrive after it has been processed.

Courier Services
A courier service is defined as a company which delivers messages, packages and mail and is known for their speed, security, tracking service, and specialization. This service is recommended for retailers that have smaller orders and value fast shipping.
1) Standard Shipping: Shipping methods like China Post and ePackets are considered standard shipping methods in China. They offer the security and tracking services couriers are known for at a lower price. The only setback is that the shipping speed is a little slower than express courier services. In fact, ePackets tend to take an average of 7-12 business days to arrive. China Post packages tend to take an average of 10-20 business days, according to Business Insider.
2) Express Shipping: Courier services like Fedex, UPS, and DHL offer speedy, trackable shipping. Fedex, DHL, and UPS’s average shipping time is 5-8 business days. However, these couriers are pricier than China Post and ePackets.

Air Freight
For retailers with slightly larger shipments or products, air freight is available. Air freight is almost as quick as courier service shipping. It averages at 2 to 10 days shipping. Some large retailers that specialize in smaller products opt for air freight. However, air freight is subject to customs clearance. Customs clearance can result in delays, fines, and even lost cargo.

Sea Freight
Retailers that need huge amounts of goods often benefit from sea freight. Cargo ships can carry large amounts of merchandise at a lower cost than air freight. Retailers that specialize in cumbersome products often prefer sea freight. A drawback of sea freight is long shipping times. Shipping time for sea freight from China can last up to 60 days. A second drawback of sea freight is customs clearance. Customs clearance can significantly slow down sea freight shipping. Like air freight, it can also pose a financial issue in the form of fines and import taxes. Some customs agents will ransack shipments to search for illegal merchandise. More often than not, customs agents will not repackage ransacked goods. The retailer is forced to cover repackaging costs.

Drop-shipping means providing goods by direct delivery from the manufacturer/wholesaler to the customer. Retailers who do not want to keep stock in their store can benefit from drop-shipping. The supplier handles the shipping aspects and the retailer pays for the products/shipping fees. Drop-shipping is not a perfect model, however. Some suppliers can mess up orders and the retailer is faced with the backlash from the customer.

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