Will your business grow its net profit by increasing revenue or decreasing the cost of goods sold (COGS)? The answer isn't so simple.
Increasing net profit (the money you actually keep) requires either more sales (turnover) or lower costs. I know what you must be thinking. No kidding, Adii – tell us something we don't know…
But one recent Twitter thread from the founder of Doe Lashes, Jason Wong, got us thinking. The fundamental foundations of running a business are so easy to overlook once you are in the thick of it. And for many, getting more exposure (marketing), selling more products (sales), and upping turnover (revenue) become all too shiny obsessions.
After all, a business isn't a business without money; it's a hobby, right? So, a focus on driving revenue up to increase net profits is an obvious one to have.
But what if we put too much emphasis on the shiny ways to increase revenue and not enough on the fundamental best practices? Meaning, what if our pursuit of top-line growth is plastering over the cracks of our below-the-line inefficiencies?
If you google "How do I make more money for my business," the vast majority of answers detail shiny marketing strategies and how-to steps centered around growth initiatives. Both lend themselves to plaster over the below-the-line cracks.
Very few focus on the fundamental principle of lowering costs alongside the idea of increasing revenue. Not so shiny but just as, if not more, effective.
Lowering your COGS
Simply lowering your cost of goods sold is easy to say but not always so easy to do. So, where should you start?
Begin where you have an abundance of real-time information and often the upper hand: your supplier relationships.
Suppliers inevitably want (and need) long-term relationships with brands that order consistently. Cost to acquire customers (CAC) is also a consideration for them. So, in most cases, you can rely on retaining existing customers like you will be their priority.
By building trusting relationships with your suppliers (by submitting reliable, consistent orders regularly), you are subsequently stacking your bargaining chips. This allows you to look at trading your order predictability to reduce costs with them.
So, don’t be afraid to ask for a bigger discount on bulk orders or commit to minimum future purchase orders in return for a reduction in unit price.
By employing demand forecasting or inventory planning software like Cogsy to predict when future demand for your best-selling products will continue to rise, you could also give your suppliers their own holy grail of greater predictability.
Protecting your working capital
Working capital is the available capital for funding growth initiatives. And it is dependent on cash in the bank, debtors, creditors, and, often the most prominent component, the size of your inventory.
In other words, working capital is the fuel that drives business growth.
For ecommerce brands, holding the wrong stock or even too much of the right stock could mean tying up cash that could, and should, be used to fund growth instead.
That's because when it comes to inventory, not all products are created equal. When was the last time you looked at your slow-moving SKUs?
No one is saying it isn't wise to keep best-sellers on hand. But for those items that don't move as fast, elimination is a simple and effective way of releasing capital.
You can then put this extra cash towards funding larger, predictable supplier purchase orders (POs). And, as a result, upping your bargaining strength when it comes to lowering unit costs or shipping prices.
But that starts by being clever with your capital spending. Real-time prioritization of SKUs based on current trends can be done by looking at:
- Product sales velocity and volume.
- The lifetime value of the customers purchasing these products.
- The average order value of carts containing that SKU.
You can also protect your working capital by taking control of those times that you run out of stock on specific SKUs.
For example, try offering customers the option to order temporarily out-of-stock products. That way, you can see an uninterrupted revenue stream for that SKU, even when it isn't physically on the shelf. Plus, you can then bring this data back to suppliers as leverage to further lower COGS.
Understanding your delivery costs
How intricately do you understand your delivery costs? Do they change across specific products, customers or locations? If you sell abroad, how often do you research new shipping companies? And for national deliveries, when was the last time you asked for costs from other delivery firms?
Closely monitoring delivery optimizations monthly or quarterly allows you to identify any incremental optimizations you could utilize to reduce your shipping costs.
Just make sure you weigh up any reduction in your shipping or delivery cost with the quality of the service you provide your customers.
That's because reducing shipping costs is an excellent way to optimize your COGS, but only if you don't incur new (often hidden) expenses in the process.
Regarding shipping, these costs tend to look like missed deliveries, lost orders, and winning back unhappy customers.
When it comes to product packaging, how luxe does it really needs to be?
This is a question I dare you to ask yourself. And, in some cases, possibly lower your standards (just a little). That's because taking even a few cents or grams off directly influences your delivery costs.
You'll also want to look at the delivery cost per product. This might make a case for bundling similar items to increase your average order value (AOV) and decrease delivery cost compared to shipping each item separately.
Evaluating shipping zones
What zones are you shipping to? Where is the bulk of your orders going to? And how much is it costing you to get them there? Aaron Rubin of ShipHero busts some shipping zone misconceptions over on Twitter with this tweet resonating the most:
The key here is to look at optimization. Can you re-locate or even introduce fulfillment centers to the areas you often ship to?
For example, Forbes shares how US-based electronics retailer Best Buy used spotting a 2020 trend to transform physical stores into fulfillment centers.
Following Amazon’s giant footsteps, they now own most of their fulfillment process. As a result, they can control the delivery date, that the information is accurately communicated to the customer, and that their shipping costs are competitive.
Flipping the growth equation
Rather than focussing on plastering over the below-the-line cracks caused by inefficiencies in our pursuit of top-line growth, we should be prioritizing not letting them form in the first place. Such as by ensuring the various below-the-line activities are always moving in the right direction.
Your COGS (including shipping and delivery cost) often presents the biggest opportunity here.
That's because minor, incremental improvements of your operations that, in turn, lead to a reduction in your COGS. And they will not only protect and optimize your working capital but strengthen the core of your business. As a result, your business sets itself up to not only grow but grow well.