A Living, Breathing Thing; Cash Flow Management

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That’s actually the way he put it to me. Many years ago, the CEO of a company that had been in deep financial trouble and had clawed its way out said, apparently in frustration with my failure to understand his concept, “You don’t understand, the cash flow is a living, breathing thing.”

 Now I know he was right. You don’t just create a spread sheet and manage cash. Especially in conditions of seasonality or fast growth you massage, tweak, manipulate and coerce it. You plead with it and threaten it. You spend too much time trying to get the numbers just right even though you know they will be different the next day.
 
Like a complex computer program with some interesting bugs, cash flows sometimes seem to have personalities. Once you learn about the dynamics of that personality, you’ll be an effective cash manager.
 
In the beginning, most small business owners, be they retail or brands, manage their cash flow out of their back pocket. They know their bank balance and checks outstanding. They understand what bills have to be paid when and can estimate their cash receipts pretty closely. When the numbers are small, sales steady, and the business relatively simple, this works fine.
 
But things change with seasonality and growth. Other people are involved in decisions about receipts and disbursements. The sheer number of factors means keeping it in your head gradually, almost imperceptibly, becomes impossible. A business owner’s tendency not to share critical financial information with others can exacerbate the situation.
 
If you now recognize that you’ve gotten to the point where you have to take a little more formal and proactive approach to cash management, what should you do?
 
First, let’s talk about what we mean by cash flow. We don’t mean the traditional financial analyst’s definition of net income plus non cash expenses like depreciation. Regardless of adjustment for traditional non cash items, the accounting measurement of net income has very little to do with cash flow as I’ll explain below. You can have income and no cash. Not all that unusual a situation in the snowboard industry I’ve noticed.
 
Instead, look at your balance sheet. The assets are what you have and the liabilities are what you owe. The balance sheet is calculated at a particular point in time. Think of your balance sheet as a telephone pole on your street (bear with me on this analogy for a minute). Down the street is another telephone pole. It’s your balance in, say, two months. There’s a bunch of wires strung between them. Instead of electric current, the wires, in this analogy, carry the transactions that result in the changes from the balance of the first telephone pole to the second. Your cash flow is like a voltmeter. It measures the current and changes in the current in the wire.
 
How could you have lots of income and no cash? Let’s say that in the two months between telephone poles one and two you sell $300,000 dollars of merchandise. But the terms under which it is sold don’t require payment for 90 days. Two months later, your accounting based income statement will show sales of $300,000 and profit of whatever your margin after expenses is. But you won’t have a cent in a bank from those sales. Income, but no cash flow. Retailers, of course, are fortunate in not having to worry about that exact scenario since they don’t typically sell on terms, but it’s still important to understand the principal.
 
Now of course if you’ve sold $300,000 in the previous two months under the same terms with the same expense structure, then you could expect to collect that money in the current two month period. So you would have cash flow. And as long as your sales and expenses were the same from months to month, your net cash flow would basically equal your accounting income.
 
I guess everybody who has the same sales and expenses each month of the year can stop reading now. But in case your business isn’t quite so consistent, let’s talk about a simple way to begin to forecast your cash flow and develop good instincts about it.
 
First, let’s look at our two telephone poles. In the two months between one pole (balance sheet) and the other, the dollar amounts of what you own and what’s owed you will change. The net change in those amounts represents the result of all the transactions that occurred during that period of time. For example, let’s look at the inventory number on the two balance sheets. Say that at the first balance sheet date, inventory is $500,000 and at the second it’s $600,000.
 
It probably didn’t make that jump in one mighty leap. Product came and product went with the result being an inventory level of $600,000 at the date represented by the second telephone pole. At different times in the period, inventory may have been well over or under either of those numbers. But at the end of the day, you know you’ve got an extra $100,000 tied up in inventory. So you’ve used an additional $100,000 over that period to buy stuff. Had inventory gone down during that period, you would have a source of cash because less was tied up in inventory. That is, you would have converted inventory into cash.
 
Now, let’s look down at the bottom of the telephone poles in the what you owe section (liabilities) At the first telephone pole you owe the bank, say, $100,000 and at the second, $150,000. If you owe more, than you’ve taken in more money to work with. You’ve increased your cash by $50,000. If bank borrowings had gone down $50,000 instead of up, you would have decreased your cash position by $50,000, though you might be sleeping better at night because you owed the bank less.
 
You can see that the “what you own” (asset) accounts at the top of the telephone pole work exactly the reverse of the “what you owe” (liability) accounts at the bottom. Increase the asset accounts and you tie up cash. Increase a liability and you create cash to work with.
 
Decrease an asset and you free up cash. Decreasing a liability is a use of cash.
 
Probably, I’ve been doing this too long because otherwise I wouldn’t say that there’s a certain elegance in how the various accounts all work together, each related but at the same time independent of the other. Study a couple of balance sheets and think about how the accounts changed. When you begin to have some intuitive comfort with these relationships, you’re well on your way to good cash measurement and management.
 
To be really on top of things, you still need your voltmeter to measure the flow of current across the wires and the changes. Do it on a computer or a piece of paper. Here’s the format I recommend and use myself in various business situations. There’s no magic to the categories. Change them to reflect your business situation.
 
                                                            Jan.      Feb.     Mar       Etc.
Beginning Cash Balance
 
Sources of Cash
            Cash sales
            Collection of receivables
            Line of credit borrowing
            Interest income
            Other
Total Sources of Cash
 
Total Cash Available
 
Uses of Cash
            Product purchases
            Repayment of bank line
            Payroll
            Taxes  
            Rent
            Utilities
            Phone/fax
            etc.
Total Uses of Cash
 
Ending Cash Balance
 
The beginning cash balance is whatever is in your checking account plus (if you’re a larger company) any liquid investments you may have. The ending cash balance each month becomes the beginning cash balance for the next period. Depending on how quickly your situation is changing, your estimate of expenses can usually be based on your historical experience. But remember that just because you get your phone bill in July doesn’t mean you pay it that month. Typical many of your operating expenses will be paid in the month following receipts, and your cash flow has to take this into account.
 
If you’re a retailer, a lot of your product purchases are paid for well after the product is received, and the cash flow has to reflect that.
 
If you already have a budget and are creating and tracking it on a spreadsheet, use the program to adjust your budget to manage the differences between the budget and cash. If you don’t have to pay for your product for 90 days, reflect product costs from August as a cash expense in November.
 
Don’t get too caught up in the process of creating a perfect model. Get it done and work with it. Modify it as you learn more. Look at your projections versus what actually happens. Creating the model isn’t really where you get the benefit. Using it and watching the variables change with each other is. It’s a lot like learning a language. You only get better with practice and as soon as you stop speaking it, you start to lose it.
 
Print it out and hang it on your wall. As changes occur, use a pencil to change entries. Consider the impact of each change on future months. When there are so many pencil marks that you no longer can have a feeling for the cumulative result of all the changes, make those changes on a clean version, print it out and start over again.
 
You’ll quickly find that it is a living, breathing thing that responds to your attentions by surprising you less and less.

 

 

Self Help for Core Retailers; The Coastline Model

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Hi, I’m back. This was just too interesting not to inflict myself on. And I imagine O’Brien couldn’t find anybody else willing to touch it. 

From the last issue of TransWorld Biz, you may remember that our hero, Sean Kennedy of New Zealand, had started a company called Coastline owned by, so far, 42 core surf shops in New Zealand. The purpose of Coastline, as reported earlier, was to provide small retailers with the scale and collective resources to allow them to create and sell, just like the larger chains, their own store brand (Coastline) which they could control and earn a higher margin on. Seems simple, but I imagine that organizing a group of independent retailers and getting them to cooperate is a lot like herding black cats in the dark. But you know what? I like it.
 
I like it because it’s retailers taking the bull by the horns and helping themselves to deal with the issues we know exist for specialty retailers. I like it because it represents a realistic evaluation of how the retail market is evolving. I like it because it may be the difference between success and failure for some of the specialty surf retailers we all seem to believe are critical to the industry.  I like it because it can evolve to be much more than it is right now. I like it because after talking with Sean, I’m convinced it’s being done in a professional and businesslike way.
 
And I like it, truth be told, because I love anything that stirs up the pot like this. This is not “more of the same” to quote me.
 
Why Now?
 
This ought to be a really short section. Being a specialty shop in surf, or in any action sport has become a really tough business. People who aren’t either growing, or increasing their gross margins, or both, are going out of business. Growth happens, and if the market is growing I guess you can expect to get your share if you do things right. If it’s not, or if you want to grow faster then it’s hard work and costs money.
 
It would sure be easier to make money if fifteen or even a higher percentage of your sales were from a product that made you a 60% gross margin instead of 38%. It would be even nicer if some of those sales were incremental because this product represented a great value for your customers.
 
Let’s see, 15% of sales of one million is one hundred fifty thousand. Twenty points on that is $30,000. But if, let’s say, $50,000 of those sales are new, then you get $20,000 on the incremental gross margin plus 60 percent of those $50K in new sales, so the bottom improvement, more or less, is a total of $50,000 in additional gross margin. Granted, I just pulled those numbers out of my posterior parts (or “arse” as they call it in Dublin). But it’s kind of an interesting calculation, don’t you agree? 
 
So that pretty much deals with “Why Now?”. Hey look, I did keep it short.
 
How Do They Do This?
 
A few years ago, I had car insurance with what was called a mutual insurance company. That meant I paid my premiums, based on how much insurance I wanted and how many little old ladies I’d run over while intoxicated, and at the end of the year, depending on how the company did, I got some money back. It could be more or less depending, for the company as a whole, how many of those little old ladies were unhappy about being crushed.
 
Sean wasn’t all that forthcoming about details, but said my insurance analogy wasn’t too bad. Basically, the stores that are owners put up capital each year based on how much product they want. The company designs, gets made, and delivers the product. Coastllines also has to pay its people and own expenses. But it isn’t trying to show a big profit- it’s goal is to help its owners/members make more money. 
 
Coastlines is a bit cautious about what kinds of shops they allow to join the company. For now, they have to be surf shops, but equally important, they have to have a certain level of financial strength. Coastlines is no more interested than any brands in customers, even if they are owners, who can’t pay their bills. Makes sense to me.
 
Of course, that means that the shops who most need this kind of help are less likely to get it, but I’d hate to see the whole concept endangered because of the problems of a few owners, so I guess that comes under the heading of “oh well.”
 
The design work is all done by Coastlines, but they aren’t looking, in Sean’s words, “To create the image for 16 year olds. That’s Quiksilver’s and Billabong’s job. We just want to make an attractive product that sells well and gives the retailer a good margin.”
 
So they are going to be a bit behind the curve and look for what they consider to be the best and safest ideas they see. I suppose that might annoy some people but I can’t say that I see that as being different from what major retail chains do when they do private lable.
 
Sean was, as I would have been, tight with his numbers. That is, he didn’t give me any. But let’s generously assume that his 42 stores average $1,000,000 each annually in sales. Let’s say 20% of their business so far is Coastlines. If those numbers were anywhere near accurate, total retail sales of Coastlines would be (42 x 1,000,000) x 0.20 or $8.4 million New Zealand dollars. I want to emphasize again that I have no idea what the real numbers are, but I’m working towards making a point here.
 
Of course, Coastlines is selling the product to its owner shops at its cost plus some mark up. You pick the markup you think is appropriate and decide for yourself what Coastlines’ sales as a company are.
 
My point is that Coastlines needs to get bigger before it can really take advantage of economies of scale and have buying power with factories. Still, it’s way beyond what a single shop could hope to do already, and that’s why Sean thought it was so necessary.  How might they get bigger?
 
Future Plans
 
This is the intriguing part isn’t it? Sean was closed mouth about how Coastlines might evolve, but that was fine with me. I’ll have a lot more fun envisioning possible futures for Coastline without being encumbered by facts. He did let a few things slip. He allowed as he’d had some calls from different people in different part of the world and in different sports. And when I asked about having other action sports shops as owners, he said, “Not yet.” So he’s thinking about it and, I’m expecting, will be pulled toward growth and other avenues of expansion besides surf. It will be fun to watch.
 
One thought I had was that there wasn’t any reason that Coastlines couldn’t easily function as a trade association as well and offer benefits and services similar to the Board Retailers Association in the US (Join BRA if you haven’t already). And many months before I ever talked to Sean or heard of Coastlines, I had heard rumblings of some form of retailer cooperation from some pretty solid US retailers. If it works in New Zealand, I can’t see any reason it shouldn’t also work in the States. 
 
Right now, Coastlines’ product line consists of wet suits, some simple mens’ and women’s apparel, and a couple of pairs of shoes and sandals. The point is that it’s soft goods and, with the exception of wet suits and maybe sandals, the design and sourcing translates from surf to skate and maybe to some other places with little difficulty. Most retailer, even core surf shops, are selling lifestyle street wear to non participants. I can’t see any reason why Coastlines couldn’t move in that direction and find an attractive source of growth that would be consistent with its core mission. If surf shops, in the midst of unprecedented growth in surfing, need this kind of support, how much more must other kinds of sports specialty shops need it?
 
And the Brands?
 
Well, hell, I assume they would prefer that everybody buy their stuff and that there was no private label business from anybody. And they are probably still watching BRA out of the corner of their eye to see if Roy Turner is going to turn it into a buying group, which he keeps saying is not his goal. They’d also like it if all shops always paid their bills before their due dates and never returned any warranty product. And myself, I’d like to win the lottery, but I’m not holding my breath.
 
Sean and I, and maybe even most of you, agree that it’s too bad that distribution has become as wide as it has. And we wish the specialty retail environment hadn’t gotten quite so tough and competitive. And we’re not quite sure we’re thrilled with all the company stores being opened.
 
And then we shrug our shoulders and go, “If I was a brand, I’d be doing the same things.” We hope it turns out to be good for the industry. We know it’s the nature of competition and will be good for the brands who do it best.
 
But unlike some other people, Sean isn’t hoping brands won’t open stores. He isn’t bitching and moaning to his supplier when it open a shop down the street from him. He’s said, “Okay, this is how it is. How can we respond in a positive way that supports the shops that everybody in the industry thinks are critical to our industry’s future?”
 
If the shops aren’t incubators for new ideas and brands, if they aren’t aware of trends, if they and the brands don’t keep the lifestyle alive, then it’s just a sport and is less of a priority to the participants. And then it’s price that matters.  Let’s hope Coastlines continues to succeed.

 

 

“Hey Look! Real Retailer Numbers!” What’s to Learn From Them?

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For a while now, I’ve been carrying around in my back pocket the National Sporting Goods Association’s 2004-2005 Cost of Doing Business Survey.

I have no idea why they call it that since it obviously doesn’t contain any numbers from either 2004 or 2005.
 
Well, never mind. They do it every other year and collect actual financial date from sporting goods retailers of various types and sizes. They got 314 responses to their survey. 226 of these responses were from what they called “specialty” stores. 217 (not all “specialty”) were from retailers with only one storefront. Now, these aren’t skate shops. They are bike, ski, camping, and exercise/fitness stores. Look, I’m sorry and if any of you know of a detailed survey of the financial performance of skate shops you should by all means write an article about it.
 
But as I’ve argued on a number of occasions in, uhh, well, another magazine…….. Ohhhh, I feel pangs of guilt.  I’ll get over it.
 
Anyway, I’ve argued that the problems of specialty retailers in sporting goods are more the same than they are different at this point so deal or do your own survey. Based on the survey, here are some things you might want to think about as you manage your shop.
 
Earn 4% With No Risk!
 
That’s the current pretax yield on 10 year U.S. Government treasury securities. Generally that’s considered to be a risk free investment. Junk bond funds, according to one source, typically yield about 8% higher than Treasuries, or around 12% currently.
 
For all 314 of the surveyed retailers, not all of which are specialty, the before tax return on net worth  (which is a lot like yield) was reported to have declined from 15.8% in the 1993-94 survey to 9.2% in this survey. That’s a decline of 42% and brings us well under the junk bond fund yield I’ve included for comparison purposes.
 
For non financial people, the word “junk” can have a negative, almost personal, connotation. But it’s just a low rated bond that has a greater chance of default than an investment grade security. Those of you have had to borrow money to run your shops and could only do it with a personal guarantee know that however your risk compares with a junk bond fund, the lender didn’t consider the risk low.
 
The survey also shows that, over the same period, the before tax return on assets for all 314 respondents fell from 5.7 to 3.9 percent. In the intervening surveys it fluctuated at higher levels of from 6.4 to 9.9 percent, but 3.9% is where we are in the latest one. The return on asset number is not necessarily comparable to a yield, but you can see that the trend is the same.
 
Net profit before tax as a percent of total revenue fell during the same period from 3.0 to 1.8 percent, though it was higher in the intervening surveys.
 
On the positive side, gross margin rose from 36.4 to 40.8%. That’s an indication, I think, of increased sales of shoes, apparel and other soft goods. I’m not prepared to believe that hard goods margins have increased. Inventory turnover improved from 2.4 to 2.7 times.
 
Wait a minute- if gross margin is up and inventory turns improved, how come profitability is shot to shit? You don’t have to be Sherlock Holmes to deduce that the cost of running a retail store has gone through the roof. But you already know that, don’t you?
 
The survey only supplies these kinds of time series numbers for the complete sample- and they don’t supply balance sheet numbers across time. But I will tell you that the risk associated with running a shop has grown. You’ve watched as people open fewer shops and more close and you know the same thing.
 
So, higher risk and lower returns. That risk free 4% return is starting to look sort of interesting. What can you do about this?
 
Grow, Damn It.
 
Just to get right to the heart of the matter, below is a chart you should look at with data taken from the analysis of the 226 specialty shops in the survey.
 
Store Revenue
Owner Comp. & Profit to Revenue
Total Debt to Total Assets
Less Than
$500,000
7.6%
79.7%
Greater Than
$2,000,000
8.8%
56.2%
 
 
In percentage terms, bigger stores earn more and take less financial risk. Their profit margin is almost 16% higher and their leverage is 29% lower. Be bigger. And recognize that it’s hard to see a financial model that makes sense for very small stores. For those of you who are small and are making it, I’d love to hear from you to find out how. That would be worth an article.
 
Be Important to Suppliers
 
I suspect most shops get a big chunk of their sales from a relatively small number of brands. Those brands are critical to your shop’s success. Bluntly speaking, you can’t survive without most of them. But as they grow, and as their distribution widens, the financial importance of your sales to their success inevitably declines. You can’t differentiate yourself with your numbers, but you can with your input.
 
Tell them what’s selling or not selling and why. Give them insights into trends. Send them a list of comments kids have made about their brand- or about other brands. Don’t just wait for the rep to come in. Go right to the sales manager, or higher in the organization, and tell them. Don’t do just what they expect or what they ask for. Do more. Surprise them. I bet it’s not really much work because not that many retailers do it.
 
Oh, and pay your bills on time. If you don’t, your credibility is shot to hell no matter what you do and you’re just another problem. By the way, my definition of “on time” is that the check arrives at the supplier on the due date.
 
Tell the brand what you’re doing to support it. Be perceived by the brand to be important to its success in your local area. Become the shop the senior managers want to visit when they are in town. In turn you can expect?  Well, what would you like? Ask for it. Now, you have the credibility to get it.
 
Not for a moment am I suggesting that this can, by itself, overcome the apparent financial disadvantage of being a small retailer. Indeed, it probably only helps once you are well established.
 
Live the Numbers
 
I recognize it’s inconvenient when some pencil pushing, number crunching, calculator carrying, green eyeshaded SOB like me comes along to present you with inconvenient facts. If you feel like it, shoot the messenger. Lord knows, I’ve been shot often enough. I await your slings and arrows.
 
It’s difficult, I suppose, to deal with some of this stuff because we didn’t get into this industry as a clever shortcut to becoming accountants. Still you need to be one now more than ever. Look dispassionately at your numbers. How does your business compare to the NSGA numbers? If the industry, and the retail environment, continues to evolve as it is now, and the financial trends in the NSGA report continue, how, to put it bluntly, will you survive and prosper? You can, you know. And the industry needs you to. But you have to plan for it.
 
The NSGA can help you. So can the Board Retailers’ Association and the Retail Owners Institute. Don’t sit on your ass and wait to be swallowed by the whale (hell of an accidental analogy) like Queequeg in Moby Dick.
 
About the Numbers
 
It’s my personal belief that it’s the retailers who are doing fairly well, and who have the systems to provide the requested numbers without too much work, who are likely to respond to surveys. If so, it skews the numbers towards showing better performance. Also remember that in small businesses, the owner’s financial position and the business’s are synonymous. Return on investment may look lousy only because the owner is taking a bunch of money out. That’s why I used owner’s compensation plus profit to revenue in the table above. Finally, beware of small sample size. 314 retailers may sound like a big sample, but once you start dividing them up into full line and specialty, by store size, by revenue, by type of store, some of the group sizes can begin to get a bit small. That’s why the NSGA has used the median, rather than the mean in its calculations. The mean can be distorted by a couple of extreme values- especially as sample sizes get smaller. The median doesn’t have this problem.

 

 

“Jeff, This is a Hard Business!” Why Is That and What Can You Do About It?

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That unsolicited quote is from the President of a snowboard brand that you all know and that’s been around for a while. It would generally be considered successful. I consider it successful.

It’s not the first time I’ve heard the comment. I’ve responded by agreeing and by explaining why it was true. Over the years I’ve had some suggestions as to how you could work to counter, it but I’ve never really had a strategic answer about how to deal with it.
Now, as a result of some thinking, consulting, and reading I’ve done, I’ve got some new ideas on the subject. This article does not end with a Deus Ex Machina like an ancient Greek drama that resolves everything, so don’t rush to the end to read THE SOLUTION. It’s not there. But I think I’ve maybe figured out how some of our old assumptions about snowboarding, and marketing in general are no longer valid, and how and why they have changed. Maybe when we know that, we’re a step closer to running our businesses better.
Ancient History
Somewhere around 1995 I started the process of making myself the messenger that everybody wanted to shoot by writing that there wasn’t room for 300 snowboard companies and that most of them were going to go away. I talked about what happened when a fast growing industry matures and consolidates.
Any of you who may have followed what I had to say about consolidation back then can relax. I’m not going to say it all again, though lord knows I’ve gotten a lot of mileage out of my list of changes in consolidating industries over the years.
I use to write about how you could find a competitive advantage in the snowboard industry. Maybe you could get your product faster, or cheaper, or have a better pricing structure, or make it better with more features, or have a business that was less seasonal. Then I talked about controlling distribution to have a market niche. Some of those things worked well when snowboarding was younger- for a while. A little while. A very little while.
Snowboarding, because of changes in information technology, the sheer speed of market evolution during our growth and consolidation phase, the impossibility of maintaining a real product advantage, etc. was experiencing what other industries were already experiencing.  Access to and control of information has moved down the food chain from the manufacturers, to the distributors and now, via the internet, etc. to the consumer. Nothing stays the same very long. And nothing stays exclusive. What one company has done, another can duplicate sometimes literally over night.
Though it took us all (in snowboarding and lots of other industries) a long time to figure it out, it turns out there was no longer a sustainable competitive advantage as traditionally defined resulting from anything you do operationally. The price of entry was making a good product, pricing it right, delivering it on time, supporting your dealers, having good information systems, hot team riders and, uh, well, a whole lot of other stuff.
Let’s say that again for emphasis. Doing everything right doesn’t give you a competitive advantage. It just let you play in the game. It was the entry ticket.
A few years ago I even wrote that. I said, “Hey, you got to do everything well just to be here!” I was right, but I didn’t make the leap I needed to make.
The Focus on Branding
Well, if everybody can do what you can do, and pretty much do it at least as quickly and as well, and if the consumer can compare prices and product features with hardly any work, what exactly can you do besides price it lower, give the dealers longer terms, sell it to anybody who will carry it, and spend more money on marketing? No wonder this is such a hard business.
Back in 1997 I wrote, “Realize that all you have is your brand name and do everything you can to build and protect it.” Perhaps that wasn’t quite as obvious back in1997 as it is now. But it quickly became obvious and companies did the usual things to try and build and protect their brand names to give them that alleged Holy Grail of business, the sustainable competitive advantage.
They boosted the marketing and promotional budget, hired more team riders, made films, did deals with resorts, sponsored contests, expanded product lines, put stores in stores. Fighting for market share was the mantra, and it killed a lot of brands who couldn’t afford it.
Nobody would deny that some of these companies did great marketing- and it worked. They grew and their brands became better known and established. But no amount of good marketing changed the fact that product was the same, consumers had lots of information, what one company could do another could duplicate, and the demand for growth caused sprawling distribution.
Advantage to the big diversified players with the year around business. But even they weren’t getting rich in snowboarding.
So I was right- we were all right. Your brand was all you had and you had to do the right things with it. But I still didn’t make the leap. Maybe some of you did.
What is Marketing?
Well, it sure isn’t The Four Ps anymore- product, price, place, promotion- like they taught in the 60s and 70s. Your only advantage may lie in your brand. That’s what everybody apparently thought as they spent buckets of money on marketing.
But the marketing they spent, and are still spending, all that money on was developed back when the conditions of rapid change, perfect consumer information, etc. that I describe above didn’t exist. It was done not for the benefit of the customer but for the benefit of the company to tell the consumer, what to buy, where, and why. The consumer, having many fewer choices of product and purchase location and no easily available product comparisons tended to do what they were told.
It must have been wonderful.
Now the consumer doesn’t need you, or anybody else thank you very much, to tell them what to buy, where to get it, how much it should cost and whether it’s good or bad. Just what the hell, exactly, do they need you for?
Just make it good and sell it cheap and they’ll figure out the rest. Not much of a business model from our point of view is it. Might it imply that a goodly chunk of your marketing spending, as currently configured, is wasted?
Marketing is no longer about telling your customer what they want and where they can get it. They don’t need you for that because of their ease of access to information. But you have the same access to information, and you can make your company one big marketing machine.
But it isn’t up to the marketing department. It’s the job of the whole company. Oh god, how’s that for an overused cliché? Let me be more specific.
First, marketing happens, and you are probably gathering information on your customer, every time they are in contact with you. When they call customer service. When you send them an invoice.   When you try and collect that overdue bill. When you ride up with a kid on the lift. Every point of contact creates an impression with the customer. What impression? How can you make those points of contact, to the extent they are predictable, into a positive experience that reinforces the customer’s relationship with your brand?
You can’t- unless you identify them and analyze how you can make them better in a coordinated way. The best example I can think of in winter sports is the way some resorts have evaluated, torn apart, and completely reconstructed the process of renting equipment and taking lessons to make it more pleasant for the customer. That’s what I think marketing means now. And obviously it wasn’t done by the marketing department.
Second, your customers may have all this information that makes them less dependent on you, but you know a lot more about them now as well. Who are your best customers? What are they worth to you over a period of time? Why do they identify with your brand? Easy questions for me to ask. Damn hard to answer. See, I warned you at the beginning you would not find THE SOLUTION at the end.
At least some of this information is already available in your existing data bases. But often the various systems aren’t compatible and they haven’t been structured to provide the data you need. If you think the accounting department designed it’s systems to make it easy to extract information on customer behavior, you’re dreaming. But the accounting department has a lot of contact with and information on your customers. Get your hands on it
Use your information to find out why your customers are loyal to you. Or why they aren’t. Take just a bit of the money you’re throwing at advertising and promotion and use it to extract this information where available from your existing data. I’ll bet you do a better job of spending that advertising and promotional budget when you know more about your customer.
We don’t sell products any more. We sell a customer brand experience. Certainly your traditional marketing influences that, but it doesn’t get to the heart of customer motivations. Please stop telling me how “rider influenced” your product line is unless you can prove to me that your best customers have the same motivations as your team riders.
Marketing means something different than it use to. This new marketing may be the only way to create a competitive advantage that lasts longer than twenty minutes.

 

 

Company Stores and Retail Consolidation; What’s a Core Store to Do?

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At the Surf Industry Conference last May, I was the last one to ask a question of a panel of very successful specialty retailers. I acknowledged that I was sure they would all continue to be successful, though I doubted they were representative of most retailers out there. And then I asked them, “So what happens in let’s say five years when there are, just to pick a number, 5,000 company owned specialty stores in the United States?”

The panel grew quiet. The microphone was removed from my hand. One panel member finally volunteered the idea that in the normal course of business, some retailers come and some go. The meeting was adjourned.
You know, I have got to stop doing that. Asking people tough questions about real business issues with political overtones in a public forum is simply no way to build a consulting practice. Still, even if I have to say so myself, it’s a hell of a good question and worth exploring further.
Lest anybody be unclear, the question is not if there are going to be more company owned stores or if chains that target the same customers as the core stores will open more stores. There will be and they will. The question is how the role of core stores changes, if it does, and how they respond.
Why is This Happening?
Oh, the usual reason. To grow and make more money. Ho hum. For some reason (and this is worth another article), companies that don’t grow seem to have a hard time surviving in the action sports business. And, come to think of it, that’s true in any business. To grow, you can grow the market, take share from competitors, buy companies, start new brands, or go into new (but usually related) businesses like retail. Those are the only choices I know of.
Leading companies in snow and surf have learned that it’s hard to increase your market share past a certain point. You can get your share of any market growth, but not increase your share. Once you get to a certain point, there seems to be a backlash from your competitors, the retailers and, most importantly, the consumers, that keeps your market share from increasing.
Markets don’t keep growing fast enough to satisfy growth requirements. Acquisitions that make sense, especially if you aren’t a publicly traded company with well valued stock to buy them with, aren’t always easy to come by. New brands take investment, some time to succeed and, at the end of day, are often just another form of trying to take share from competitors- unless you’ve spotted a new market. But meaningful new markets don’t come along every day.
So if you’re a brand, you think about opening retail stores as a new, but related, business which you can maybe grow faster than your existing business. And you notice that while your cost structure is neither better nor worse than any other retailer, your profit structure is a hell of a lot better than core retailers selling your brand. This is simply because you are selling, to a greater or lesser extent, product you, as the brand owner, were already having made.  And you are selling it to your retail outlet at your cost. It’s for this reason that retail chains not owned by brands push their own brands- the gross margin is a lot higher.
It’s also why I expect to see more consolidation of retail stores. Higher margins through private label require a certain volume of business, and unit costs do come down with size as your ability to negotiate with brands increases.
Industry Dynamics
It’s funny, because no matter whom you ask in this business, distribution is an acknowledged issue. At some point, distribution becomes too broad. “It’s not good for the industry,” most will admit, “If you can find everything everywhere.” And margins- look, for sure margins have been under pressure and they need to be higher. Just ask, oh, anybody. Core retailers are for sure important to the industry, and we obviously need new brands to lead the way. “Everybody” thinks so.
But at the end of the day, every manager of every business is going to do what they perceive to be in the best interest of their company. You will. So will I. Every damn day.
We’re going to look for ways to grow and to increase our margins.   We’ll expand our distribution because there just isn’t enough growth in core shops for larger brands. We’ll get stuff made wherever it’s cheaper because all this “me too” product means that differentiation is tough and price is an important way of competing. We’ll open more stores. And as we do this stuff, we are legitimately and seriously and really going to be   worried about the core retailers.  Brands will do some things to help them. But we’re still going to do what we perceive we have to do given a tough, competitive environment.
I’m not saying this is a good thing, though maybe it has benefits for the consumer. I’m not saying I want it to happen. I’m just saying I’ve watched enough business cycles (in action sports and other industries) to be pretty certain this one won’t be any different. Don’t just shoot the messenger- think about the issues and how your business can benefit.
Position of Core Retailers
 
In its fiscal year ended January 31, 2004, Pacific Sunwear reported a gross margin of 35%. It stated that 32% of its business in the same year was private label. I couldn’t find anywhere what the gross margin on its private label business was. But even with 32% of its business being higher margin private label, its overall gross margin was only 35%.
Quiksilver, obviously a supplier to lots of retailers, in its year ended October 31, 2003, reported a gross margin of 44.4%. Now, there are some retail sales from some of its own stores in there, and probably some other sources of revenues from things besides its core business of making stuff and selling it to other retailers. But let’s just focus on that 44% number and recognize that most of it comes from Quik’s core business.
Retailers look at Quik’s 44% margin and ask themselves, “How can I get some of that?” The answer is private label.   Private label really is not a viable idea to a small, single store, retailer. Okay, you can do some t-shirts, stickers, and decks. But the bigger you are, and the more stores you have, the more valuable it can be to you- not just in terms of the additional gross margin, but in terms of brand recognition.
But remember that we’ve got an awful lot of companies selling an awful lot of product, through an awful lot of retail outlets that’s awfully similar to everybody else’s product. So price matters. And a retail chain (I’m not going to pick on Pac Sun anymore. I admire the hell out of what they’ve accomplished) is probably going to pass some of that extra gross margin they get from being larger and having private label to their customers for competitive and growth reasons.
If you’re a core retailer, and your competition is a big chain, you have a problem. You can not sell the same brands they sell, at the prices they sell, with your comparatively tiny annual turnover and have a financial model that makes sense.  We all know that’s accurate because we’ve seen so many small stores go out of business and so few open.
So if you are a core store, you better make sure you’re positioned so that you’re not competing directly with the chains. Because you can’t.
Well right, Jeff thanks a lot for that useless bolt of wisdom. How do we do that?
First, the days of just opening the store with a few bucks in the bank and your credit card are gone. If you really have a need to get rid of your money, have a big party and please invite me. Invite me? Screw that, just send me the money. You’ll save yourself a whole lot of effort and anxiety.
Second, you need a plan that gets you to a larger turnover quickly. You need the capital to fund that. You’ll need that plan and the capital just to convince the brands you want to carry to sell to you.
Third, from the day you open, you need a quality information system and the ability to use it. There’s not the room for mistakes like there use to be. Focus not just on gross margin, but on total margin dollars. If you don’t know why that is, don’t even think about getting into this business.
Fourth, you need at least a couple of committed and experience management people who can do this right. No learning as you go like you use to be able to do. And they need to like sleeping in the shop.
Fifth, however much capital your plan shows you need, you need more. The only thing we know about your plan is that it’s wrong. Either you will grow faster than projected, or slower. In either case, you’ll need more money. If you don’t understand that, don’t open a shop.
Sixth, you need the right location and strengthening community involvement from day one. If you come from the community and already have recognition in it, so much the better.
All the successful core shops I’ve ever seen that have been around a while have all these things, but they got started when it was easier by orders of magnitude.
So having said all these discouraging things, I’m urging with you to go out and open shops. But I’m urging you to do it right to maximize your chances of success. Shops have an important role to play in identifying trends, making it about the lifestyle and not just the sport, and taking a chance on new brands. They keep the industry from just becoming part of “sporting goods.”
My concern is that chains of smaller stores that look and act somewhat like core shops are going to replace the real thing.   And as a business guy, I’ll congratulate those chains on their success even as I recognize that their actions and motivations aren’t exactly what the industry needs to stay fresh.

 

 

The Enthusiast Cycle; Lessons From the Scuba Diving Industry

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Yes, the scuba diving industry. Maybe nine months ago Fran Richards, former VP at TransWorld and somebody whom I consider one of the best intuitive marketing guys in action sports, called me up and said, “Hey Jeff, I’ve given your name to the guys at the Dive Equipment Manufacturers Association!”

“Uhhhhh, thanks Fran, that’s great, I guess…..WHY?!”
 
Anyway, to make a long story short, some months later I found myself facilitating a conference for that industry. It seemed that the sport was perceived as too expensive, the instructors were not very sales oriented, the baby boomer customers were dropping out, the equipment was all good and not differentiable (and a lot made in China by one manufacturer who may enter the market with its own brand), nobody had the time to participate, it was becoming even more a destination sport, there were too many small retailers who had no idea what they were doing, the industry had no idea how to attract kids and as a result of all this, the market was shrinking or at best not growing.
 
Anybody who is or has been in the winter sports business, as a resort, retailer, or manufacturer probably feels for the dive guys by now. At one time or another we’ve had or have all those problems. Like the dive industry, we’re still working through some of them. The good news is that we’re further along the “figuring it out” curve than they are.
 
Anyway, having noted once again that industries tend to be more similar than different in spite of the protestations to the contrary by the participants in each industry, I found that working in a new industry gave me better perspective on this one (In some ways, diving ought to be an action sport, but it’s just too damn peaceful).
 
The Enthusiast Cycle
 
As I listened to the dive retailers and manufacturers talk, I found myself thinking about the ski resort business in the 60s and 70s. People came and skied in droves in spite of comparatively poor base facilities, equipment, lifts and various other inconveniences. I won’t say that none of that mattered, but it certainly didn’t keep people from showing up and participating.
 
The resorts got just the slightest bit complacent. When skier days started to decline, the resorts didn’t know what to do, but while they were thinking about it, the snowboarders appeared to the resort’s ever lasting relief.
 
And the snowboarders didn’t care about poor base facilities, equipment, lifts and various other inconveniences. Hell, they even found ways around the people trying to kick them off the mountain.
 
The skiers in the 60s and 70s and the snowboarders into the 90s weren’t just participating in a sport. Many of them defined themselves as snowboarders and skiers. It was their lifestyle.
 
As people trying to make a few bucks (or Euros- whatever. Look, I’m in the middle of moving to Dublin and have no idea what currency to think in. I suppose it doesn’t matter as long as I can buy beer with it) in the action sports business, that’s exactly where we want (need) people to be. We want them to feel that participating in the sport is validating their lifestyle and self image. Then, to put it a bit indelicately, they buy more and put up with more.
 
Why do they do that? I think it’s because they are young, something is new, and maybe perceived as a bit exclusive. But whatever it is, they don’t stay young, it doesn’t stay new and we bust our butts trying to make sure it doesn’t stay exclusive lest too many of us go out of business.
 
So somehow, at some point in the enthusiast cycle, it becomes just a sport to more people. You can participate in a whole lot of sports and activities. You can’t have a whole lot of lifestyles- maybe you can only have one. As you get older, your lifestyle can revolve a bit more around kids, career and mortgage payments and less around snowboarding, or skating, or surfing. Not for everybody, I know, but I’d say that’s true for most.
 
SIA’s web site shows this succinctly in a couple of graphs in one of their reports. They show snowboard and skier participation by age. Guess what it shows? Snowboarders are younger, skiers are older, skiing participation is going down, snowboard participation is going up. What a shock.
 
Skateboarding has been through this a couple of times and may just be starting to come out of its latest down cycle. At the recent Surf Summit, in May, Quiksilver CEO Bob McKnight warned that surf’s present good times wouldn’t last forever.
 
These cycles happen and will continue to happen. When surf/skate/snow/diving become “only” a sport they become vulnerable to new competitive pressures. It is no longer the same priority at the top of the participant’s list. Maybe we can influence these cycles (and I’m not sure of that) but we can’t change them. What should we do?
 
The Ski Resort Response
 
To their credit winter resorts started to figure it out and snowboarding bought them some time to do it.   They trained instructors in selling and conversion. They collaborated with manufacturers in making equipment that was easy to learn on. They put up signs so you could find the bathroom. They offered cheap lessons and incentives to come back. They tried to make sure that people didn’t show up for their first lesson in jeans and freeze to death. Some resorts have restructured their rental process from the ground up to make it more customer friendly. High speed lifts, better base facilities, the list is endless.
 
It cost a lot of money. My perception is that it’s working to some extent, though the jury is still out on whether it will work in a way that makes financial sense. But at the end of the day, what the U. S. resort industry says is:
 
“While these tangible issues are encouraging, conversion (“software issues”) has emerged as the predominant roadblock in the industry’s ultimate goal of growing the sport by 10 percent.”
 
The intangible “psychology of conversion” and the “golden hour” between trial and conversion must be more effectively addressed.”
 
In other words, all the tangible improvement and enhancements in processes and facilities are necessary but probably not enough. Somehow, they need people to “feel the love” and make snow- or skate, or surf, or diving- something that defines, to some extent who they are. They don’t need somebody who participates in snowboarding, though they’ll take them. They need people who think of themselves as snowboarders.
 
The Marketing Delusion
 
We all believe, or perhaps hope, that the rather significant sums we spend on advertising, teams, trade shows, promotional product, events- the list can seem endless- contribute to creating people who don’t just participate but associate themselves with the lifestyle images we try to create. We know to some extent it works and if I knew what “to some extent” meant exactly you’d all be paying me a fortune to tell you.
 
My belief is that it works better when the target audience is younger and the product is fresher. That’s why the skate companies, with an overwhelmingly adolescent male audience, have tended to introduce new brands on a regular basis.
 
I’m suggesting two things. First, and most importantly, we’re at the mercy of what I’ve described as the enthusiast cycle- not in control of it. We can’t stop people from getting older and, as a result, changing their priorities.
 
Second, and here’s a BGO (Blinding Glimpse of the Obvious) for you, we damn well better know as precisely as we can who our customers before we spend those buckets of money on marketing.
 
It’s not just about whether a customer is “young” or “old.” We should be concerned with their changing motivations as they age. Resorts have been trying to sell condos to baby boomers as they sell terrain parks to teenagers. Some have succeeded, but lord that’s a hell of a schizophrenic marketing message to manage.
 
Recognize that you can’t do anything about the enthusiast cycle. It’s as inevitable as death and taxes. Don’t believe that the same marketing will work as the customers’ priorities change and they age. Start by checking out the demographic statistics in your market. The U.S. Census bureau has great stuff on line that tells you how many people are what ages and where are they.
I don’t know if all the EU countries have the same thing. 
 
To oversimplify a bit, are you going to try and hold on to the same customers as they age, or are you prepared to drop them and go after the new crop? Or both?
I know it’s not that linear, but your answer will determine where, how, and how much you spend on marketing.
 
Don’t fool yourself into believing you can overcome the enthusiast cycle with marketing. Acknowledge it and build it into your business strategy. If you approach it that way it’s an opportunity, not a problem.

 

 

Buying Smart; Selecting Among Snowboard Brands

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Ain’t business grand? You’ve got a choice of something over 100 snowboard brands to sell in your shop. ‘Course, 20 of them will be gone by the time the snow melts and next year there’ll be 35 new ones. Delivery, not to mention service, is uncertain.  Some of those new companies will be only as real as the ad they managed to scrap up enough cash to run in Transworld.

But hey, if the graphics are cool, the product is new and there aren’t many of that brand around you can probably sell some as long as the construction is solid, they are delivered on time and there’s a semblance of a marketing program.
 
Let’s assume that, like most shops, you’re going to carry some old brands and some new ones. I’ll leave it to you to figure out if the graphics and shapes are right. If I could do that with any certainty, I probably would have been in a position to buy Transworld myself instead of letting Times Mirror do it. 
 
So into your store walks the sales rep, or into the booth you walk at the trade show. What factual information can you have that would allow you to compare brands from a business perspective and keep from being completely carried away by the enthusiasm of the moment? A checklist with the following information would be useful.
 
1)            Where are the boards made?
 
Al Russell, the president of Grindrite, says there are eighty (!) factories in the U. S. alone. That includes everybody from Burton to the garage that will turn out 200 hand made boards in a season. If it’s a larger factory (Morrow, Pale, Elan, Taylor-Dykema, etc.), ask who else has their boards made there. Don’t take “I don’t know” for an answer. Somebody in the company knows. If it’s convenient, call the factory and ask for a tour. The company you’re buying from can help you get in the door. You’ll learn a lot about how snowboards are made and, at a minimum, that knowledge and the fact that you’ve been to the factory will make you a more effective sales person.
 
If it’s not convenient, go anyway. Go visit a factory in Europe, spend some days “product testing” on new terrain, and deduct the cost of the trip. I like to think this industry is getting to the point where tax deductions are becoming important. Means somebody is making some money.
 
If it’s a new brand and/or a small factory you’ve got a whole new set of issues. Can they deliver in a timely manner, will they be there for service and what will product quality be like? Lacking a track record, there’s no way to tell, so be wary. Check out the people involved. Do they actually know anything about making boards? Get a couple of samples to ride. As discussed below, make sure they have enough financial strength and savvy to be around when you need them. Consider insisting on personal guarantees from the principals.
 
2)            What’s the construction like?
 
In past issues, this scholarly and erudite publication has told you all about the various constructions and the materials used. There aren’t many basic constructions and the materials are more or less the same from board to board and factory to factory.
 
Once you’ve got all this good information from questions one and two, what are you suppose to do with it?
 
You now know brands A and B are made at the same factory (or different comparable factories) with the same materials and very similar (if not identical) construction techniques. After examining the boards, it’s clear that the visible differences are only in graphics.
 
Oh yeah- and maybe in prices. If the wholesale price sheets show major differences in what you know are boards that are basically identical except for graphics, why should you be willing to pay it?
 
Maybe the graphics are so hot that a price differential is justified. Perhaps the brand’s reputation, marketing program, quality of service, warranty policy, payment terms or some combination of these justify the higher price. If it isn’t clear that’s the case, your decision just got a whole lot easier. Alternatively, your negotiating position with the more expensive brand just got stronger. “Hey, how come I’m paying you $25 more a board when the only difference is the graphics?”
 
Could lead to some interesting conversations. Even if you’ve decided that the more expensive board really is the one you want, use your knowledge to negotiate a little better deal.
 
Consider carrying the information gathering process one step further and starting a little sooner. Meet with or call a half dozen or more other retailers. Have each retailer rate each brand they carried on a scale from one to five for timely delivery, warranty claim handling, service and other factors you consider important. Share that information among yourselves and get together to discuss it. Now the questions becomes, “Hey Joe, how come I’m paying you $25 more a board for your product when the only difference is the graphics, you were late delivering and it took two months to get warranty replacements?”
 
Alternatively, you might find out exactly why you want to pay that extra $25.
 
3)            How is the company financed? Can they provide a bank reference? What does the company sell during the off season?
 
The simple fact is that financing a fast growing, highly seasonal business is tough. It takes a lot of capital for a short period of time and coming up with it can be hard, especially if you’re a new business without a history of profitability. I’m here to tell you that just because a snowboard company has an outstanding sales organization, great graphics, a strong marketing program and a good reputation doesn’t mean it’s well financed. Size and apparent prosperity is not a guarantee of financial strength. Ask the people in Orange County, California.
 
It would be nice if your supplier would give you a financial statement, but that’s probably not going to happen (except for Ride of course). Ask for a bank reference. The banker will always be cautious about what they say but in general, the less they have to say, the more reason there may be for concern. Ask your banker to get a Dun and Bradstreet report on the supplier. Ask them for a list of credit references and check them. See if they have any cash flow during the summer, or if they just lose money for six or seven months of the year. Having some summer cash flow simplifies the problem of working capital financing significantly by reducing the peak amount required and providing some collateral for bank borrowings. I imagine that has something to do with why there are so few snowboard only shops around.
 
They say that when you go to the supermarket, it’s best to go with a list to avoid impulse purchases. I have to think that’s true in Las Vegas too. To a large extent, snowboarding is the fashion business. Hype, controversy and the other intangibles are always going to sell product. You can’t be completely rational about brand selection; your gut feel and experience does count for something. But there is some hard information out there for those of you who are willing to take the time and make the effort to collect it. It isn’t too much time or too much effort, and you can significantly improve your decision making process. Not only will it show up in your bottom line, but you can expect fewer surprises and headaches once you get into the season by finding out a little more about your suppliers now.

 

 

Business By The Numbers; Simple Questions a Shop Owner Can Ask Regularly to Stay in Control

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If your typical day is a series of disruptions and interruptions like that of many small business owners, then you may find yourself having difficulty controlling your business and knowing with certainty where you stand on a day to day basis. All businesses face challenges. Those challenges are most easily met if focused on early. What starts out as a minor inconvenience can become a survival issue if not identified and managed in a timely way.

But the disruptions and interruptions aren’t going to go away. So any system for anticipating problems and controlling your business has to be simple to develop, simple to use, and take not much time. It has to be your servant; not make you a slave to data collection. Here are some ideas on developing one that’s right for your business.
 
The first thing you need is a budget. To some people, this means a complex financial model on a computer projecting a balance sheet, income statement and cash flow. If that’s what you’ve got, great. But in the interest of keeping this simple, let’s assume you at least have a sharp pencil and some accounting paper with columns.
 
Write the 12 months of the year across the tops of the columns. Let’s start with the current month. Down the left side of the paper, enter the following row captions; sales, cost of goods sold, and gross profit.
 
Continue with the following expense categories; advertising, promotion, salaries and taxes, rent, telephone, utilities, maybe interest expense, and supplies. Finish up with pretax income for the month.
 
Now say, “I’m the only one who really understands my business” and change the categories to reflect the specifics of your shop. Maybe it would be helpful to split up sales among product type (boards, boots, bindings to use one example that comes to mind). Could be that the costs of keeping the doors open every month always total nearly the same and you’re comfortable with just one total number for these costs. Whatever works for you.
Now fill it in. Congratulations! You’ve got a budget If it took you more than an hour or two to do this in rough form, then you may have identified the first minor inconvenience that could become a survival issue; poor financial data.
Get yourself a manila folder, label it “My Control System,” and put the budget in it. You’re half way there. Now all you’ve got to do is ask a few simple questions on a regular basis and record the answers. The questions I recommend are:
 
1)    How much did we sell today? Get another piece of accounting paper, write the month on top, and the days from 1 to 31 along the left margin. Have two columns headed “Today’s Sales” and “Cumulative Sales.”   Fill in the two columns at the end of each day and put it in the folder.
2)    How much did we sell this week? Add a column to the daily sales sheet and put a weekly column every seven days. If you think it would be valuable, add another sheet of paper and look at sales by major product group weekly. At the very least, do that monthly.
3)    What’s the gross profit? Look at it weekly and at the end of the month in total dollars and record the information on another sheet of accounting paper. If you know your starting inventory, what you have received, what it cost and what you’ve sold, this is a simple calculation.
4)    How much inventory do I have? Record it weekly and at month end on another piece of accounting paper you slip into your folder. If you answered question three above, you’ve already got the answer to this one so the only additional work is writing the numbers down. A refinement you may want to consider is looking at your inventory by major product groups.
 
Now we’re getting somewhere. We have a simple budget, are tracking sales, gross profit and inventory levels. We can start to make some decisions. Trends can be spotted early and adjustments made with minimal pain. The magic of this is that the more you do it, the better those decisions will become.
 
Are inventory levels too high or too low given your sales levels? What should you try and see if you can get more of, and what should go on sale or be displayed differently? Your gross profit is higher than expected. Is sales of one brand with a particularly good margin outpacing other brands? Is this a chance to dump some stuff that’s not moving and still maintain your profitability?
Obviously, all these factors work together in a very dynamic way. With the kind of system I am describing here, you’ve got them all in front of you in a very simple format. Patterns will emerge and trends be more obvious. You don’t have to be a master of accounting to do this.
 
In fact, remember that this isn’t accounting at all; it’s management. You do not need precise numbers. I am not suggesting a physical inventory every week. Don’t count your nuts and bolts. Focus on the products that make up most of your sales.
 
Let’s move on to the expense side.
5)    What are my fixed monthly expenses? There’s a bundle of monthly operating expenses including things like rent, telephone and insurance that should stay pretty constant from month to month. Look at them monthly and don’t expect much variation. If you see it, ask why.
6)    What am I spending on salaries (including taxes and benefits)? Salaries should be reviewed weekly and at the end of the month. Weekly because they are a big expense item and can be managed relatively easily in response to changes in sales. Add another piece of accounting paper to your folder that by now has all of, oh, maybe five pieces of paper in it.
7)    What are my advertising and promotional expenses? Record them weekly or monthly depending on what right for your business. Use the same sheet of paper you use for salaries. Let’s keep this folder thin. In fact, put all your expenses on one piece of paper.
8)    How’s my cash flow? That’s probably another article, though by asking the seven questions I’ve listed above, you’re well on your way to predicting your cash flow. As a retailer, paid at the time of sale, you don’t have the collection of receivables to worry about. Your cash flow typically differs from your income statement in four basic ways. First, some taxes may be paid quarterly, though you expense them for income statement purposes monthly, as incurred.
 
Second, you’ve got terms from some of your suppliers. You recognize cost of goods sold for income statement purposes when the product is sold, but may not be paying for the product until some months later.
 
Third, you’re probably paying for fixtures and leasehold improvements at the time you receive them, but depreciate them over some period of time on your financial statements.
 
Finally, if you’ve got a line of credit from a bank, your borrowings and repayments are not reflected in your budget, though your interest expense is.
 
Shouldn’t be very hard to adjust your income statement budget for these differences and have a cash flow.
 
At the end of the month, look at your budget compared to actual and see how you did. Since you’ve been following things daily and weekly anyway, there shouldn’t be anything unexpected. As a modification, consider adding a column after each month of the original budget for inserting the actual numbers at the end of the month.
 
So here’s a tool for you to consider using. If you’ve already got a good accounting system, this can help you focus on what’s important. If you don’t, this will give you the minimum you need to control your business and anticipate problems and opportunities. This generic system should, of course, be adapted to the particulars of your business. The exact form it takes isn’t as important as using it regularly; every day, week and month. Invest a little time now and you will have more time later, and better control of your business.

 

 

China, Small Brands, Inventory; Visions from Vegas

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Purposeful. In a word, that’s how I’d describe the show. There was the quiet hum of business being done and if the aisles weren’t as full as I’ve seen them in the past, and the noise level was somewhat subdued, it was because the booths were full of people focused on doing business. Sure, I miss the good old days a little, I guess. It really was fun to hear what brand got thrown out of the show for which infraction.

Still, I’d rather people were realistic about doing good business instead of being naively optimistic like they use to be. It’s good for the businesses and good for snowboarding.
 
I want to illustrate that with short discussions of three things I noticed in Vegas. Each could probably be a whole column. And may turn out to be, come think of it.
 
China
 
Not new of course. And I took a whole column to talk about it some issues ago. But what struck me is what a non issue Chinese production is now. Hopefully the extra margin gets allocated in such a way as to both give brands better profitability they can use in supporting the sport and consumers a better deal.
 
But what’s new about China is the impact of the strengthening of the Euro against the Dollar. Stuff was already cheap in China when a Dollar bought one Euro. Now it takes a buck and a quarter to purchase a Euro. All other things being equal, a snowboard made in a factory in the European Common Market is now 25% more expensive than it was some months ago. The Chinese snowboard has stayed the same price, because the Chinese currency is pegged to the dollar.
 
In the course of my wandering at the show, I found myself talking with a representative of one of those European snowboard factories I had known for some years.  In my usual subtle way, I asked him if he had opened a Chinese factory yet. He smiled, but I didn’t think it was completely genuine, if you know what I mean.
 
Being completely incapable of taking a hint, I commented, “Well, maybe when the Euro hits 1.5 to the Dollar.” I got another one of those smiles and the subject changed. What has me worried is that, as an industry, competitive pressure to make and sell less expensive product means we’ll end up with less margin dollars in total to play with even if our gross margin percentages stay the same or even improve.
 
More about that later. Though it’s not obvious, these three Vegas issues of China, small brands and inventory are all related and by the end of this I hope to show how.
 
Small Brands
 
There were a bunch, and they seemed to be doing great! What a relief. Snowboarding took off because it was fun and because it gave kids something to belong to that was different and unique. Skiing, when it consolidated, was reduced to basically nothing but large company brands with the result we are all familiar with. Snowboarding consolidated, and it was fashionable to talk about how it was becoming “just like skiing.”
 
Apparently, it’s not. Somehow, through the consolidation, a number of smaller, snowboard only brands managed to hang in there. And now more are popping up. Not just appearing and then disappearing, but hanging in there.
 
You might have expected that the sheer size and marketing power of the big brands would have left damn little room for the smaller players. To some extent that happened. But interestingly enough, the sheer size, and the push for growth through broadened distribution by the big guys, didn’t kill the small brands. It validated them.
 
I’m not quite certain why that is, but I’ll speculate a bit.
 
First, though some have been better and some worse, the major brands have pushed hard to find all the distribution they could. I’m not saying that as a criticism, but as a statement of fact. Maybe it was the inevitable competitive response- you know, get the market share before they do coupled with a grow or die mentality. Had that growth been a little more selective, perhaps the opportunity for small brands would have been less because the major brands would have been less like commodities available everywhere.
 
Second, the sheer size of the leading brands makes it hard for them to be quite as in touch or quite as “cool” or quite as at the edge than a smaller brand. You lose an edge when you get to be a certain size. You just do. I heard the story at the show about the small brand that had run an ad explaining how to change the picture on a lift ticket, or forge it, or something. Apparently some of the resorts aren’t too pleased with this for some reason.
 
No large brand, with its rental relationships with resorts, is likely to do that. And I have to confess that while I laughed, I’m don’t like encouraging that kind of behavior. But remember ten plus years ago when the goal was just to find a way onto the hill even if you had to duct tape your binding together, even if the choice was between a lift ticket and food and even if the resort didn’t want you and your snowboard there?
 
Perhaps I wax a bit too nostalgic, but this brand with its lift ticket scam reached back and touched that a bit, not to mention appealing to basic greed.
 
We need the enthusiasm- the “I don’t give a damn I just want to snowboard” feeling- if we want to continue to grow the sport. The success of smaller brands is a barometer of how effectively we are doing that.
 
For that to happen- for the small brands to grow and succeed- they need to make a few bucks. They need not to just to grow in units, but to earn gross margin dollars. That implies a certain cost and pricing structure that may not be compatible with too much inexpensive Chinese product (no matter what its quality) and resulting price competition among leading brands. As they are discovering in the skateboard business right now, if there’s enough price difference and the quality is the same, a lot of kids will forego the hot brand for the feel of cash in their pockets.
 
Which brings us to-
 
Inventory
 
As a finance guy by training, this was the most glorious thing I heard at the show. Retailers were telling me how they were calling up brands to buy some closeouts (an old and honorable tradition) and couldn’t find much. Could it be that the brands were finally coming around to my way of thinking? That it’s better to agonize about not having product to sell than about having it. Hope so.
 
I’ve been making that argument for years because I believe that the best advertising you can do in a one season business like snowboarding is to say, ‘Sorry! Sold out!” No close outs, no old inventory, no retailers pissed because the stuff they paid so much for is now on sale at Chain Store X for less than their cost, bigger preseason orders next year, lower advertising costs, and higher margins for everybody.
 
A little scarcity lets us sell value- not just snowboards. Value goes for a higher price.
 
You can begin to see how these three issues come together based on self interest which, to nobody’s surprise, is the best way to engender cooperation among a group of stakeholders with competing interests.
 
Growing snowboarding requires successful smaller brands and specialty retailers. You can’t just market your way into growth forever. At some point, no matter how good the marketing is, it becomes ubiquitous and mainstream if only due to sheer volume. The excitement and sense of belonging to something declines. Smaller brands and specialty retailers can keep some of that going.
 
But to stay in business and do what we all seem to think they need to do smaller brands and specialty retailers need margin dollars, because by definition they aren’t going to make it on volume.
 
Margin dollars come from some combination of higher prices and lower costs. The lower costs, like with product from China, can’t be all pushed down to the consumer by competitive pressures. The higher prices come from some discretion in distribution and the right kind of promotion.
 
I’m probably being wildly optimistic here, but what I’m painting is a scenario where some improved control of inventory and distribution by brands, the success of small brands, and judicious use and pass through of the extra margin from foreign production works for brands and retailers in not only keeping snowboarding special and growing the sport, but in financial performance as well.
 
Not too bad.

 

 

By the Numbers; The Impact of Price and Margin Changes

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Two issues ago, I suggested one possible future for the skateboard industry that I really don’t want to see happen, but which we all have to consider. Last issue, I suggested some questions you needed to ask to figure out the financial impact on your company.

 
This issue, let’s drill down one more level and look at some general numbers and see how a company might actually be affected and why. Note that these numbers aren’t real numbers from a real company. But we all know enough about what it costs to make a skateboard and what they sell for to put together some rough numbers for a mythical company we’ll call “The Company.”
 
Three Years Ago
 
About three years ago, The Company was loving life. It had an income statement that looked something like this.
 
Net Sales                                              $20,000,000                  100.00%
Cost of Goods Sold                              $11,333,340                   56.67%
Gross Margin                                        $ 8,666,660                   43.33%
 
Operating Expenses
 
Advertising, Promotion, Team                $ 2,000,000                    10.00%
Overhead                                              $ 2,000,000                    10.00%
 
Total Operating Expenses                      $4,000,000                     20.00%
 
Pretax Profit                                         $ 4,666,661                    23.33%
 
Yikes! The Company has an impossibly good business. The pretax margin is twenty three percent. Here are the rather gross assumptions I made to put this together.
 
The Company sells nothing but branded decks at $30.00 each- sort of a blended rate between direct to retail and distributor pricing. So they are selling 666,666.67 decks. I have no idea who the fool who buys the last two thirds of a deck is. Hope he got a discount.
 
The decks, back then, cost them $17.00 dollars to have made or to buy. I’m assuming this is a distributor. Obviously, if it’s a manufacturer, margins get even higher, but there are manufacturing expenses to be added to cost. In real life, they wouldn’t just be selling branded decks. There’d be other hard and soft goods and probably various brands.
 
One Year Ago
 
Gee, what a fun couple of years it’s been. For The Company’s last complete year, sales were off thirty percent, declining to $14 million. Luckily, this was a hot brand and selling price and margins held. Assuming they kept their operating expenses constant, The Company’s pretax profit fell to $2.8 million as shown below.
 
 
Net Sales                                              $14,000,000                  100.00%
Cost of Goods Sold                              $ 7,933,333                   56.67%
Gross Margin                                        $ 6,066,667                   43.33%
 
Operating Expenses
 
Advertising, Promotion, Team                $ 1,400,000                    10.00%
Overhead                                              $ 2,000,000                    14.29%
 
Total Operating Expenses                      $3,400,000                     24.29%
 
Pretax Profit                                         $ 2,666,667                     19.05%         
 
Hey, that’s not so bad! You’ve still got a pretax margin of nineteen percent, down from twenty three. You can live with that. Your overhead doesn’t really go down much, but you kept your marketing expense at ten percent of sales by reducing your trade show presence, advertising a bit less, and cutting a few riders you considered marginal. And you’re just a bit stingier with that promotional product. No free t-shirts for Jeff this year. Damn.
 
But lurking in the lichens is the fact that your product is the same as everybody else’s, and keeping your gross margins depends on keeping the hype going, no matter what your sales are. Cutting those marketing expenses can be good financial sense in the short run, but be tough on the brand in the longer term. Still, you got to do what you got to do. Or you could maintain the marketing expense level at $2 million. You’d still have a pretax profit margin of a little over $2 million. Pretty nice.
 
Unless of course, The Company was a $10 million company three years ago, with an income statement that, today, with sales down thirty percent, looks like this:
 
Net Sales                                              $7,000,000                    100.00%
Cost of Goods Sold                              $3,966,667                     56.70%
Gross Margin                                        $3,033,333                     43.30%
 
Operating Expenses
 
Advertising, Promotion, Team                $   700,000                     10.00%
Overhead                                              $1,000,000                     14.29%
 
Total Operating Expenses                      $1,700,000                     24.29%
 
Pretax Profit                                         $ 1,333,333                    24.29%
 
Wow, that’s still pretty damn good! It’s amazing what a cash machine a high margin branded product can be. You can see why everybody wanted to get into this business. These kinds of pretax margins don’t come along that often.
 
Still, note how the total margin dollars available are dropping. It may be that at $7 million in revenue, The Company really needs to spend more than ten percent of sales on its marketing.
 
Retailers reading this should think about the gross margin dollars issue carefully. As much as I’m a fan of high margin percentages, you also need to think about the total margin dollars you generate. Do the numbers yourself, but you can sell fewer $50 decks with a lower gross margin percentage and still make more margin dollars than you make selling more higher margin percentage $30 decks. I think that’s probably worth a whole column next issue.
 
I confess to indulging in a little bit of gloriously naïve optimism in my discussion of The Company. A real company’s gross margin isn’t going to be lower than what you see here after you factor in discounts, freight, returns, etc. And I’ve conveniently not included any rider royalties. I also don’t think you can automatically reduce your marketing expense in this business to conform to a percentage of sales as those sales drop. So if the $7 million company shown above has only a 40% gross margin, for example, and has to hold its marketing expenses at a million dollars even with falling sales, the pretax profit is suddenly down to $500,000.
 
 
Next Year
 
Sales have stabilized and even started to recover a little. The Company wipes its brow in relief realizing that volume isn’t going to drop another 30 percent. But your average selling price has dropped as a result of cheaper product being available from overseas, the actions of some of your competitors, and some retailers and customers welcoming cheaper product. The good news, kind of, is that you also have the ability to buy some of this cheaper product yourself and, continuing to assume that The Company is just a distributor, it’s been able to get its domestic manufacturers to lower their price a bit.
 
If The Company is a domestic manufacturer, it has a different set of problems. Its volume is probably down, and its OEM customers have been squeezing it for better pricing. Lower volume may mean that the all-in cost for each deck is actually up, while customers have the leverage to get you to take less for each one. That sucks.
 
In addition, the price difference between branded and blank decks has become even more compelling, and some percentage of skaters finds the price difference too compelling to resist.
 
But as we see in the numbers, selling that high margin branded product is what makes this business financially attractive, and people are going to be fighting to keep their share of that. That probably translates into higher marketing expenses, assuming you have the money to do it.
 
Let’s run some of these issues through The Company’s grossly simplified income statement, starting with The Company doing the $14 million sales have declined to.
 
Except of course that $14 million isn’t $14 million any more. The Company is doing the same number of decks, but the average selling price has dropped to, let’s say, $25. You’re now doing roughly $11.7 million in business   but you’ve squeezed your suppliers some and your cost per deck is down to $13.
 
You squeeze your overhead for all it’s worth, but you’re doing the same number of decks so there’s not much to cut there. We’ll leave the marketing budget the same. As I said before, it might be that it should actually go up. 
 
Net Sales                                              $11,700,000                  100.00%
Cost of Goods Sold                              $ 6,067,000                   51.85%
Gross Margin                                        $ 5,633,000                   48.15%
 
Operating Expenses
 
Advertising, Promotion, Team                $ 2,000,000                    17.09%
Overhead                                              $ 2,000,000                    17.09%
 
Total Operating Expenses                      $4,000,000                     34.18%
 
Pretax Profit                                         $ 1,633,000                     13.96%
 
 
What we started with as a $20 million company is now doing less than $11.7 million, but it’s still okay, but only under my admittedly naïve, optimistic scenario. Look at the percentages as well as the numbers. What would happen if The Company was an $11.7 million business when this all started three or more years ago? Not a pretty picture.
 
The big unknowns, of course, are what skaters will actually be willing to pay for decks and what companies will actually buy decks for and from where. It’s possible that a brand’s selling price could have to go down further. But it’s also that their cost can be much lower as well. The issue for skating is how we make sure there will be enough gross margins dollars left when this all works its way through the system to allow the brands to continue the marketing programs that are critical to skating.