Employ a Detailed Approach to Merchandise Analysis
Another factor that’s often overlooked is the hidden cost of inbound freight. If it has been factored into the initial cost of goods as most companies do for landed cost, you’ve done a great job. If not — as most companies don’t factor domestic freight — inbound freight can run 2 to 4 percent of sales, and can be a significant number.
Derive Initial Gross Margin
Once you have net sales, the next step is to derive your initial gross margin, which includes the merchandise cost of the items sold. Additional impacts to gross margin, however, often aren’t factored at this stage, but eventually impact margin.
These include the cost of overstock (the net hit to profit for moving excess inventory), as well as the cost of handling returns, particularly if the returns can’t be recycled back as good stock. Draw the first threshold line and conclude that at least the item contributes initial margin. If you can’t pass this hurdle, identify better performers for your offering.
Whether you use actual square inches or percent of page, recognize and monitor variable operating costs, a major component of item advertising costs. These costs (aka sell ratio) include the catalog printing, paper, postage and list rental. Although many companies look at net list rental cost, if you only factor list rental expense, you again raise the bar, and list rental income flows directly to bottom-line profits.
As these costs have increased, the industry has seen sell ratios climb between the upper 20 to lower 30 percent range of revenue. Factoring this at the item level helps control this cost.
The next largest variable cost is the cost to pick, pack and ship the product to the customer. For most companies, this cost ranges between 8 and 12 percent of sales. You may find using a set percentage for all products is the most efficient way to allocate these costs.