Retailing is not Third Grade Math
Why setting a price for an item should be more than simple multiplication.
During the first couple of years in school, math was just adding and subtracting. The challenges picked up while learning multiplication. Visiting with retailers, we are finding that many are putting that skill to work as they determine the price of the products they sell.
For example, they take the cost of an item ($2.00), and multiply by two. Using this math, the retailer gets a selling price of $4.00. Since the cost is half, of the selling price, there is a 50 percent margin. All the retailers decides is what number they are going to use to multiply by.
All of this is wrong, for so many reasons.
The first reason is that by using a multiplier you can be assured you will, more often than not, be pricing the item too high or too low.
Try finding an item that no one else in the area stocks. In this example, you will likely find the unique item is priced too low. And, with a common item everyone stocks, having the same margin means that item is likely priced too high.
The second reason is that cost should have nothing to do with the price an item is sold for. Instead, ask: “What will the customer pay for this item”?
If cost is the sole factor in how something is priced, consider the situation in which you have decided to add a new line of treats. At the show you place an order, which provides a new display rack, as well as plenty of merchandise. It is the best price you can get for the treats. With that cost in mind, you establish the retail price.
As you sell through the product, you need to reorder, but your order is not sizable enough to go through the manufacturer, so you go to a wholesaler for a higher cost. Now how do you price the product?
The third reason this is wrong: the terms, “margin” and “markup” are not interchangeable. The margin is calculated as previously described. Note that the math for the margin is the same as what is used in your profit and loss statement. The markup, using the same cost and retail, is 100 percent because you are taking 100 percent of the cost and adding it to the cost of the product to determine the retail price.
You can never have a margin that is 100 percent (this would mean you got the merchandise for free), and if you use markup, you can have an answer that is higher than 100 percent. In a conversation, you should make sure both of you are using the same terminology and the same method of calculating.
We have found multiple factors that should be considered in determining the selling price of each item. Determining the correct margin is not third grade math.
Tom Shay is a fourth-generation small business owner. His teachings provide the “nuts and bolts” necessary to improve the operation and profitability of the business. He has authored thirteen books on small business management, and a college textbook on small business accounting and business planning. Having written over 400 columns in 75 trade publications, he has been nominated three times for the Jesse H. Neal Award for editorial excellence in business media. Shay has earned the Certified Speaking Professional distinction, which has been attained by eight percent of speakers worldwide.
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Blank Ink: Cash Flow Management Secrets Your Accountant Never Shared
Friday, March 23, 10:30 AM - 11:45 AM
“Profit may give a thrill, but it is cash flow that is paying the bills,” or so the old saying goes. Ask any vendor at Global Pet Expo and you will find they have plenty of experiences where retailers have been slow to pay because of a lack of cash-on-hand. The oddity is that these businesses are profitable, and often growing. The problem is just not having cash. This session will show how to use free Excel templates to accurately project the cash needs of a business up to 12 months in advance. Any retailer will know how much inventory they will have and need as well.