Discover a simple rule for balancing your purchases and expenses.
By Rick Segel, CSP
Although I started my actual retailing career in 1972, I grew up in a retailing family where my parents ran the classic mom-and-pop women’s clothing shop. I can only remember my parents arguing about one thing, and that was my mother’s buying habits in the store. My dad would say, “You buy too much … you keep on buying too much.” My mom would agree but sort of ignored his advice because she would respond with, “I know I can sell that.”
After I came into the business, I began to see the challenges surrounding the issues of how much merchandise was too much and how much was not enough. As an active retailer, I spent hours with system after system, approach after approach and finally developed my own system that worked so well for me I finally started to share this simple test with others. I converted it into a system, but it is really just a simple test. It is better known as “Open To Thrive” or the “40-55 Rule.”
I am proud to say this system is currently being used by more than 1,000 retailers, and that has given me the opportunity to talk to hundreds of retailers around the world and listen to their over-buying issues. So, you might say the issue of being “overbought” has been a lifelong passion. I say all of this because what I am about to reveal might come as a shock to many of you.
After reviewing hundreds of stores and their numbers, there is one overwhelming and almost mysterious finding. The vast majority of store are not overbought. They don’t have a buying problem; they have an expense problem, yet most store owners don’t see it. When you say that a store’s expenses can’t be more than 40 percent of its sales, retailers get that. When you say purchases can’t be more than 55 percent of your sales, retailers get that, too.
Why is it so confusing, then?
Actually, there are a few reasons why we don’t easily recognize the real problem. First, our accountants and banks will tell us it’s OK. Why? Because inventory is considered an asset, and, therefore, your accountant can actually have you show a profit when you are cash strapped and are worried about paying your bills.
That is why the term “cost of goods sold” has a tendency to confuse us and cloud up the real problem. Next time your accountant does a financial report for you, look at the profit-and-loss statement. You will see a section called “Cost of Goods Sold.” Just eliminate this section in your mind (this is not for accounting or tax purposes), and look only at your purchases.
This means you will eliminate the beginning inventory and the ending inventory calculations. Those calculations are never really accurate because our physical inventories are never accurate.
Doing this is almost like treating your inventory as an expense, which it really isn’t but for a buying test, it works. If you feel that 55 percent is too much or too little and 40 percent is also too much or too little, it’s OK. Those percentages are only a generalization for most retailers. For example, jewelry stores work on 52 percent for purchases and 43 percent for expenses because their payrolls can be higher and their inventories generally have better margins. Develop your own Open To Thrive values, but trust me that 40 percent and 55 percent work the majority of the time.
The other reason that it’s hard to recognize the problem is because you really have very few expenses that you can control. Actually, there are really only two expenses that can have a meaningful difference. Of course, every expense is important, but being able to control your payroll and your advertising are the keys to your success.
Rick Segel, CSP, is a seasoned retailer of more than 25 years and the author of 13 books. As a Certified Speaking Professional, he offers keynotes, seminars, training sessions and breakouts covering every aspect of growing and running a business. Learn more atwww.ricksegel.com.