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The True Cost of Discounting – Part 1

The True Cost of Discounting

by Phil Latz

Think of the times have you been a customer finalising the purchase of a large ticket item such as a car, household appliance or piece of furniture.

You have in your mind a figure of what you’re happy to pay. It may even be the full asking price. But without you even asking, the salesperson offers you a discount that brings the price to below the price you were fully prepared to pay.

Then of course you said to the salesperson, ‘No, wait! I was actually prepared to pay this much’ …and a pig flew across the sky.

There have been whole books written about negotiating, probing for customer objections and closing the deal. That’s all beyond the scope of this article, in which I’m going to show you the true cost of discounting by focusing upon your favourite subject, maths!

As someone who ceremonially burned all his schoolbooks the day school was finally over (home incinerators were still legal in those days) I sympathise if this is not the most exciting subject, but if you want to increase your profitability, it’s important to understand the key principles.

Suppose you have some bikes on your shop floor that you decide to discount by 20%. How many more bikes will you have to sell to achieve the same total dollar amount of gross profit as you would have if you sold them for full retail price?

A common instinctive answer is, ‘I’d have to sell 20% more.’ But that answer is not just a little bit wrong, it’s way out! How much? That depends upon the starting gross margin you’re discounting from.

Time for definitions of two key terms that get used a lot by bike businesses, mark up and margin (often called gross margin).

As an example, if you buy a bike for $1,000 and sell it for $1,500 your mark up is $500 or 50% but your margin is only 33.3%. The margin is always lower than the mark up.

That’s because margin is calculated by taking the mark up amount, $500 and dividing it by the retail price $1,500, which gives you 0.33 (rounded) or 33%. 

If you were to buy a product for $1,000 and sell it for $2,000 your mark up would be $1,000 or 100% and your margin would be $1,000 divided by $2,000 which equals 0.5 or 50%.

If you look at the table (‘Discounting Your Prices’) you’ll see that if you were to discount your bikes by 20% and the starting margin was 35%, a not uncommon mid-range margin on complete bicycles, then you’d actually have to sell 133% more bicycles to make the same dollar value gross margin. So for example, if you were likely to sell 10 bikes at full price, you’d now have to sell 23 bikes. (ie 10 + 133% x 10 = 23 (rounded)).

‘But I had to clear those bikes!’ I hear you say. Followed by a reason such as:

  • If I lose the sale, my competitor down the road will get it.
  • I need the cash to pay bills.
  • It’s the end of model year and the bike will be worth even less next month.
  • If I get that customer on board, they’ll spend a lot more with me over the years on P&A, servicing, bike upgrades etc.
  • I can get a volume discount from my wholesaler if I can just push through a few more sales.

All of these reasons may be valid to various degrees, at certain times. But unfortunately, there’s a further piece to the equation.

The discounting table is only referring to gross margin. After that you need to deduct your overheads (also called expenses) to get to your net profit. Net profit is truly the bottom line. It’s the only money that you get to keep.

If you sold 23 discounted bikes for the same total gross margin as 10 full price bikes, chances are your expenses will increase. You could even be worse off in terms of net profit percentage.

Why? Do you have enough warehouse space or retail floor space for those extra 13 bikes, or will you need to rent some more? How much will it cost to assemble the extra bikes? How much time will it take sell them? How will you finance the extra stock and at what interest cost?

Turnover is vanity, profit is sanity. It’s a nice feeling when the shop is busy and bikes are rolling out the door, but how much net profit have they made you? It’s easy to become focused upon growing your business at all costs, but that’s the point… there are a lot of costs that come with growth.

On the other hand, suppose you decide to put your prices up. As you can see from the table (Increasing Your Prices), once again, depending upon the margin for that product, you’d have to lose a lot of sales before your gross profit is reduced.

In this example the net profit effect is reversed. Fewer bikes to assemble and sell might mean lower wages, less space required might mean less rent, which could well lead to a higher percentage of net profit. And when it comes to business, net profit is literally the bottom line. I know of many bike shops barely making any profit at all, but other bike shops making net profit within the 15% to 20% range. That’s a vast difference.

In summary, although it may seem counter intuitive, when you drill down into the maths, the cost of discounting is higher than you might think. In the real world you’ll always have reasons to discount, like the ones listed above and more. But if you have a better understanding of the true cost you’ll make better informed decisions.

Footnote: How to calculate discounting and price increasing samples for yourself. If you look at the two enclosed tables and can’t see the actual percentages relevant to your products, then here are the two formulae that they’re based upon.
For the discount table, sales must increase by discount / (margin-discount).
For the price increase table, sales can decrease by increase / (margin+increase).

The following two tables are resources from Action Coach, the world’s first specialist business coaching service.

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Put Profit First!

Put Profit First!

by Phil Latz

This blog was written for bicycle retailers but many of the principals are universal, so if you’re not a bicycle retailer, you should still find this useful.

Why did you start your bike business? Because you love riding bikes yourself? Because you’re an ex racer and it’s all you know? Because you love seeing young kids get their first bike? These and many other reasons are all well and good, but the only way you can stay in business for any length of time is by making a profit!

My favourite subject at school and later at university, was economics, probably because it closely relates to the world of business, to which I’ve been magnetically attracted since a young age.

I’ll never forget my high school economics teacher asking the class, ‘What is the aim of a business?’ After patiently hearing a wide range of often idealistic answers from his students he forcefully stated, ‘The aim of a business is to maximise profit! Full stop. No ifs, buts or maybe’s.’ 

All of the other lovely things, helping kids to start riding, spending more time with your family, whatever you like… they’re all fine, but they’re your personal goals. Please do not confuse the two.

Another great saying that always bears repeating is, ‘Turnover is vanity, profit is sanity.’ Sometimes a third part is added to the end … and cash is king!

Many bike shop owners tell me their sales. They know their sales numbers, if they’re up or down on the same month last year and so on. But very few of them know their profit numbers, which is ironic because that’s the only portion that as a business owner you can truly spend on whatever you like – after paying tax of course. 

The vast majority of your sales revenue has to go back to paying for the goods you sell (bicycles, parts and accessories) or your expenses, including wages, rent, insurance, electricity, tax, phone… the list is always too long!

I was pondering this recently when I was almost home from a leisurely 40 kilometre bike ride. If each kilometre represented sales revenue and I was making 5% net profit, then I’d be just a few minutes from home, two kilometres away to be exact, before I start riding for myself. For the previous 38 kilometres I’ve been riding for other people: my suppliers, insurer, landlord, bank manager and others. (Why do they all seem wealthier than me?)

If I’m making 2% profit, which is all that some bike shops manage, then I’m not even riding the last full kilometre for myself, only the final 800 metres.

Those profit percentages may sound quite dismal, but if you dive into the data provided by the Australian Bureau of Statistics (ABS), you will find that the average net profit margin across wholesale business is typically in the 3% to 4% range each year with retail only slightly better at 4% to 5% average net profits. You can see detailed data here.

With many bike shops having closed in recent years, clearly there are some bike businesses not making any profit at all. Yet I’ve heard of others making close to 20% net profit.

Why such a difference?

Start with Defence!

In both sport and war, we talk about offence and defence. It’s no different in business. Offence includes things like marketing and growing sales revenue. That’s all very exciting and what business owners like to talk about most, but I strongly urge you to start by strengthening your defence. In business, as my accountant loves to hammer into my thick skull, that means three things: cost control, cost control and cost control!

Why is this the most important place to start?

Let’s say that by going through all the expense line items on your profit and loss statement (Yes, you do need to look at your financial statements!) you contact key suppliers and negotiate slightly better rates on everything from your insurance to your bank interest. It’s not that hard to do – if you don’t ask, you don’t get!

Let’s say that in total your savings add up to $10,000 for your shop that’s turning over the Australian bike shop average of $863,875 (based upon the last survey done in 2015/16).

You’ve just increased your net profit by 1.16%. That might not sound much, but if you’re running in the middle of the ABS average for retail net profit, 4.5%, that would increase your net profit by just over a quarter, 25.7%, to a new net profit of 5.66%. In dollar terms you’ve just increased your net profit from $38,874 to $48,874. 

This is additional to owners wages, which should always be shown within your total wages expense line, before you calculate net profit.

Offence is Usually More Work

On the other hand, if you don’t worry about defence and just focus upon your offence through increasing your sales, how much more do you think you’d have to sell to get the same bottom line result of a $10,000 increase in net profit?

Using our example, if you are running at 4.5% net profit, then to increase net profit by $10,000 you need to increase sales by a staggering $222,222! Think how much work would be involved in increasing your sales by that much. You might need more staff to build bikes, a bigger store, more stock, higher insurance premiums and so on.

Therefore the real world answer is not quite so simple to predict as making a simple projection based upon unchanged profits. It depends upon how much your cost of goods sold and expenses increase relative to your increase in sales. Perhaps you’ll find some economies of scale and net your profit percentage will also improve when your sales grow. Great! But don’t just assume this will happen without you consciously working on it. Often businesses go the other way – ‘Now I can afford that bigger premises!’ Or a new shop van, extra stock, there’s a long list of ‘must have’ expenses you can find yourself paying ahead of actually banking some profit.

Take Action!

Whatever you decide to do, any positive action is better than falling asleep at the wheel, content with the status quo. I’ve just finished reading a business book called Profit First by Mike Michalowicz. It’s full of way too many corny jokes, but contains some interesting ideas that I’ve not seen in any of the many other business books and articles that I’ve read over the years.

To distil 224 pages into a couple of lines, Profit First says you should flip the usual financial system on its head and say, ‘sales, less profits, equals expenses’. Then you should set up separate bank accounts for profit, tax and other key items and make small but regular payments into these accounts – before paying your bills!

Of course there’s a lot more detail, so read the book before you try it. But I was sufficiently impressed that I’m going to try it for my own business, new bank accounts and all. In the coming months and years, feel free to ask me how it’s going!

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Your Brand is Much More Than Your Logo!

Your Brand is Much More Than Your Logo!

by Phil Latz

What is branding? It’s one of the key differences between large, highly profitable companies and struggling small businesses.

Successful businesses understand the importance of branding. They respect key laws of branding and build their ‘brand equity’, that is, the value of their brand. 

Brands can be worth many billions of dollars. Think of the Golden Arches or Flying Kangaroo. I don’t even need to name the companies. You already know.

Branding is far more than just a logo. The logo’s ultimate power is that it represents the positive attributes of that company at a single glance. Those attributes will vary from company to company. You can’t be all things to all people so don’t even try. No matter how big you are, you’re better off majoring on your strong points, your key positive attributes.

For example, when it comes to cars, what does the Volvo brand mean? Safety.

BMW? ‘The ultimate driving machine’ that is, vehicles that handle well and give great tactile response through your hands.

Mercedes? Engineering excellence. You get the picture. 

Volvo could spend a billion dollars next year telling the world that they’re the best handling brand, but they’d be wasting their money because BMW has been building that key brand attribute for decades.

Once you’ve established the key attribute (or an extremely short list of attributes) that your brand stands for, the next step is to make every point of customer contact consistent with that attribute. Your customer likes to know what to expect. They like consistency, not nasty surprises.

For example, a customer walking into a Ferrari showroom is not likely to be impressed if they see that Ferrari has introduced an economy people mover model. Conversely, I don’t think Kia could sell too many $500,000 sports cars, even if they out-performed an equivalently priced Ferrari.

To have maximum value and effectiveness, your brand needs to mean something in the minds of your current and potential future customers. You can only build this over time through consistency.

How do you achieve this consistency? There are too many factors to write about them all in a single blog, so let’s focus upon the low hanging fruit that is within the budget of even small businesses.

You should create your corporate style. Or better still, hire experts to help you do so. This will not be as expensive as you might think. The first place to start would be with a good graphic artist experienced in creating corporate style guides for businesses.

Once your guide is created, it costs you nothing to stick to it, other than consistent discipline and organisation.

At its most basic level, for your small business to produce a style guide, you select a colour palette, one or two fonts (typefaces), a logo and a set of rules about how and where you are going to use these colours, fonts and logo.

Think back to those example of the Golden Arches and the Flying Kangaroo.

How often do you see those arches in blue? Or the kangaroo in yellow? Never!

Interestingly, if you Google to see images of these logos through the decades, you’ll see that they’ve been regularly ‘tweaked’ to keep them looking fresh. But these changes are so expertly done that a casual observer might not even notice the difference from one version to the next. 

Large companies know that their logo and corporate branding is worth millions, or even billions. A quick glance at the ‘worlds most valuable brands’ list in Forbes for 2019 shows Apple at the top of the list with a brand value of US$182.8 billion (A$261 billion). Scroll down through a list of famous brands and you’re still looking at US$7.4 billion (A$10.5 billion) for KFC at number 100.

You might think that has nothing to do with your business which is perhaps a single location retail store, but good branding, even for a small business, could mean an extra $100,000 or more on the price achieved when you decide to sell.

Notice that I previously said, ‘hire experts to help you’. Don’t let them create your logo and corporate style for you without your input. They might have the technical expertise, but you know your business better than anyone else. The fonts, colours and styles that are chosen need to accurately reflect the key attributes of your brand.

For example, if you have a ‘blokey business’ that sells macho products mainly to young men you might choose a masculine font such as Machine. This is the font they use for the numerals on gridiron football jerseys. If your key brand attributes and customer base is feminine then you might choose a slender, elegant font such as Optima. Walk into your local chemist shop and look at the skin care products. Optima is all over the packaging like a rash…

Once you’ve got your corporate style created and fully documented, including examples, the next step is to use it – everywhere! Use it on your shop front signage, on your website, your Facebook page, your staff uniforms, your invoices, your shop fit-out, your shopping bags and everywhere else that you are seen by your current and potential customers.

If after a while you see it so often that you’re getting sick of it, great! You must be doing a good job. Resist the temptation to change.

Research says that your customers are exposed with around 5,000 ads per day in some format. That can mean everything from a two minute immersive cinema ad through to a split second flash of a billboard as it goes past their train window or a brand logo that they quickly scroll past on the margin of a computer screen.

If you’re going to achieve ‘cut through’ with your current and potential future customers you need to make the most of every precious slice of their attention that comes your way. You do this by playing smart, just like the big boys with their multi billion dollar brands all do.

Your Next Steps

  1. Work out ideally just one key attribute that your brand needs to represent, certainly no more that two or three.
  2. Get help to design your corporate style to reinforce that attribute.
  3. Stick to your corporate style like you-know-what to a blanket!

Then you’ll gain a competitive edge in your marketplace and build your brand equity.

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How Do You Compare?

How Do You Compare?

by Phil Latz

Don’t worry, I’m not talking about body image here! The world is already too full of unhappy people trying to match impossible comparisons to photoshopped images of movie stars and other ‘celebrities’…

In personal and social settings, comparison may be harmful. But in business, it’s a useful tool that research companies have built a whole industry upon. They’ve even given it a more business sounding label: benchmarking.

For many industries in Australia, from hotels to hair dressers you can find in-depth benchmarking data to see if your business is above or below average regarding a whole range of KPI’s (key performance indicators). These can include everything from gross and net profit, to revenue per employee, rental as a percentage of sales and so on.

Using an example industry that’s familiar to me, unfortunately, there’s not a major, ongoing benchmarking report for Australian bicycle retailers, but there was a survey run by Bicycle Industries Australia from 2014 to 2016. I’ll run a few summary findings from the most recent of those surveys at the end of this blog.

There’s something else you can do on an informal basis that can be highly valuable for your business. Find one or two other retailers who are not in competition with you and whose discretion and business ethics you trust. They could well be other dealers of your main bike brand, who are based a long way from your store, even interstate.

Then make a date for a call or better still a face to face meeting. It might only be once a year the day before your supplier’s dealer show, or via Skype or Zoom. It might be more frequent.

For the second half of the 25 years that we owned Bicycling Australia I had an arrangement just like this with another independent magazine publisher who was based 1,000 km away from me in Queensland. His business was about triple the size of ours, but otherwise very comparable, with a range of specialist magazine titles. None of our titles were in direct competition, but we faced the same challenges in terms of staff, printing and distribution costs, marketing challenges, how to build our subscription lists and so on.

When we met, most of the time we were simply benchmarking. ‘How much are you paying for your printing at the moment?’, ‘What salaries are your editors currently on?’ But we’d also discuss successful past strategies, new plans and ideas and so on. Both of us thought that this was time very well spent, otherwise we would not have continued to stay in touch until, in the end, we both sold our respective businesses.

If you don’t already have a similar relationship with a fellow bicycle dealer or two, I suggest you work hard to nurture one, of course being very up front with what you’re looking to achieve. Both of you will benefit!

Finally, back to that bicycle retailer report, here are some benchmarks from 2015/16, based upon survey responses from 78 stores, 57% metro, 43% regional.

Average shop floor space: 220 square metres.

Average number of total staff:
Full time: 2.0 male, 0.3 female
Part Time 1.0 male, 0.3 female
Casual:1.2 male, 0.3 female

Average number of mechanics on staff:
2.0 male, 0.1 female.

Average Markups, Margins and stock turns per year:
Markup number appears first (gross margin in brackets)
Bicycles before discounts 56% (36%)
Bicycles after discounts 47% (32%)
Bicycle stock turns: 3

Parts & Accessories before discounts 81% (45%)
Parts & Accessories after discounts 73% (42%)
Parts & Accessories stock turns: 5

Clothing before discounts 68% (40%)
Clothing after discounts 48% (32%)
Clothing stock turns: 3

Average annual store turnover: $863,875

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Always be Eager to Learn!

Always be Eager to Learn!

Your days of learning don’t need to stop when you walk out of school for the last time. Treat life as one big classroom.

By Phil Latz

Let’s start with a story. 

Once upon a time, many years ago, I came back from a season of bicycle racing for a team in France, more than a little disillusioned with all of the drug taking I saw. I soon got married, then before long we had two daughters and for the first time in my life needed to seriously think of a career choice other than trying to become a professional cyclist.

I found myself as a ‘base grade clerk’ in the Australian public service, sitting next to a gentleman who’d had a very interesting life. ‘Bill’, as I’ll call him for his privacy, had escaped early family tragedy – his father had committed suicide – by joining the Australian Army and spending time in Asia where he became an interpreter.

Years later he returned to Australia, settled down, got married and started a family. He worked his way up through the ranks to become a store manager for Woolworths, then advanced to shopping centre management, before mental health issues saw him unable to work for a long period. Then he started back in the workforce at the bottom of the ladder, sitting right next to me as a fellow base grade clerk.

Bill turned 40 during our year or so working together. At the time he said, ‘You’ve got no idea how quickly the time has gone.’ 

Already knowing everything, as I did at age 22, I was too polite to say what I thought at the time, which was literally, ‘Don’t kid yourself, you’re way old!’

No offense if any public servant is reading this story, but from my experience, we never had too much work to do. Bill had many interesting stories from his action packed life. He was good at telling them and I had plenty of time to listen.

In particular, through many episodes over the weeks and months, he effectively gave me a complete course on how to run a Woolworths supermarket – everything from stock control to merchandising to staff management to sales and marketing and more. I reckon I could have walked straight into one and taken over!

So when the opportunity came up a couple of years later to buy a run-down country general store I said to my wife, ‘Let’s find out if what Bill taught me really works.’ Sure, the scale was smaller, but the principles were all the same.

Turned out Bill knew his stuff… by applying his lessons we quickly built up the business and sold that general store for almost twice what we paid for it within two years.

The sale of that business gave us our first ever decent lump of capital which we ploughed straight back into founding Bicycling Australia. Initially we were a one magazine start-up working from a home office. Over the next quarter-century we became the largest specialist cycling media business in Australia, adding more magazines, book publishing, trade shows, online mail order, before selling the three distinct sections of that business to three different buyers between 2014 and 2017.

So without Bill’s teaching we might never have bought our first business, which in turn enabled us to start our second. The moral of the story is you can learn valuable lessons anywhere, any time. Your education shouldn’t finish the day you leave school.

Learning starts with having an open minded attitude. As one famous author says, ‘Your attitude determines your altitude.’

Today there are more learning opportunities than ever. You don’t have to pay $50,000 for an MBA degree from a prestigious university, although that might be the right choice for you. Apart from the traditional books, short courses, recorded lessons and so on, there’s now a wealth of good material on line. I’m still learning about all sorts of topics, just has fast as I can cram information into my ageing brain!

You don’t just benefit for narrow learning directly relating to your business. Anything that gets you inspired or thinking about possibilities will help you, which is why I’ve also read a lot of biographies.

Please don’t say, ‘But I’m too busy running my business to do any learning!’ 

You make time for the things that you value. If you watch any TV, you have time. That might sound very harsh when taken out of context. Of course, we need to relax, watch some TV, spend time with family, play sport or whatever you enjoy. My point is that it’s easy to make excuses regarding a lack of time when it comes to things like intentional learning and self-improvement.

Getting more structure into your schedule might not come naturally to you, but in my experience that’s the best way to make time for learning.

Business coaching is a form of learning, with a good dose of personal accountability added into the mix. Like all forms of learning, it won’t suit everyone. It requires you to come with the right attitude. The clients who get the most out of coaching are the ones who are open to new ideas. Are you brave enough acknowledge that you don’t know everything and that you could learn new ideas that help you to improve their business, and your life?

That requires you to be open to change. Which is a scary thought to most people at the best of times. Never more so than today, when technology is driving change at an accelerating rate in just about every facet of life. You have my complete sympathy. I sometimes wish I was born a century ago in simpler times – but not for long.

Perhaps the only thought more scary than having to change is that if your competitors are more open to change and new ideas than you are, they could run you out of business.

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