Here’s a dismal statistic: last year, in the United States alone, on average one retail business failed every 12 minutes. That’s five failures per hour, 24 hours per day, 365 days per year.
People who get their understanding about retailing from the popular press or from political rhetoric often believe that declining sales is the death knell of retailing.
However, declining sales is not among the top five killers of retail businesses. In fact, more than one-third of the retail businesses that fail are actually profitable. So much for “conventional wisdom.”
While each of the top five killers need the respect of retail owners and CEOs, the highest priority always must be the No. 1 slayer. And it just might surprise you to learn what it is. Let’s examine each of the top five killers, starting with No. 5.
Retail Business Killer #5:
Out-of-Control Balance Sheet
If you are considering expansion into new lines, new departments or new locations, you must not ignore the management of your balance sheet. Expansion is successful only when your balance sheet gets stronger.
What is your debt-to-worth ratio now? What will it be a year or two from now? Growth will be an affordable option only when it is the result of careful financial planning.
Growth of any kind means an increase in assets, which can be purchased either with excess profits or an increase in debt.
Projecting those changes will get a projected debt-to-worth ratio, the best measurement of financial strength that exists. (Note: If you must shrink your business, the same ratio should be your guide.)
Retail Business Killer #4:
Productivity is about making each dollar count and getting the greatest return on each dollar spent. Yes, we’re talking about expense management.
Expense management may sound like an old idea, but today, it’s more important than ever. Ignore it at the risk of your business.
In retailing, major expenses are often fixed (such as premises, permanent staff salaries, etc.). These costs must be covered by margin dollars, whether sales are strong or weak. But there are areas in your business with variable expenses where you likely can cut costs.
Be creative. Ask your staff for help on cost-saving ideas. Put special attention on “the creepers” — expenses that continually grow over time to become a menace.
Budgeting, of course, will be your main tool for keeping expenses down. A pro forma (projected) income statement is a necessity. You must forecast expenses and adhere to budget guidelines. Then tie that discipline to dealing with the next killer.
Retail Business Killer #3:
Failing to Manage Gross Margin
The No. 3 killer of retail business is inadequate gross margin management. As a retailer, you must not ignore the message of your gross margin. Don’t ask, “How are my sales?” but rather, the more important question, “How are my gross margin dollars contributing to operating profit?” By department, by vendor, even by SKU, what are the trends? And what are the options?
As a general rule in retailing today, gross margins are dropping. (Just take a moment to look at the gross margin trends of the 55 retail segments found under “store benchmarks” on The Retail Owners Institute website, retailowner.com).
This is caused by the largest retailers incessantly cutting their operating expenses, then lowering their needed margins so they can lower their retail prices and better compete with the other retail monsters. Sadly, many independent retailers get caught in this spiral. You must not.
Specialty retailers that remain “special” can actually raise their margins in many cases. The key is better buying for your better customers.
Another key to managing gross margin is using a tool called GMROI — gross margin return on (inventory) investment — to compare departments, lines or products.
GMROI should be in every retailer’s arsenal. It can be determined by taking a year’s gross margin dollars for a particular line of product and dividing by the average cost value of inventory in that product line. Compare this dollar return with other product lines.
Retail Business Killer #2:
All retail businesses that carry inventory have special problems. Inventory is the “engine” of the business; it generates all the gross margin dollars and it is responsible for customer satisfaction (or lack thereof). But inventory also soaks up cash — often lots of it.
Inventory has another unique feature: the pressure to buy more and more of it — pressures to buy more and/or different stock come from your own well-intended sales associates; current and new vendors; offering what a competitor is carrying; customers asking for new or different items; and of course, from a disgruntled customer you might run into at a neighbor’s party!
How can you offset all this pressure to over-buy or buy the wrong merchandise? The pros always budget their inventory buying with an open-to-buy system set up by department or classification or by store. Then, they follow their budget. The real pros in retailing respect their open-to-buy plan as highly as any responsibility they have.
The #1 Killer of Retail Businesses:
Being Out of Cash
“Profit cures a lot of ills, but cash flow pays the banker’s bills.”
Poor cash management is the No. 1 killer of retail businesses today. Generating profits may be the sign of a good business, but profits matter little if a business runs out of cash.
What keeps retail businesses running is enough cash coming in so that purchases can be made and obligations met at all times.
Mismanaging cash can quickly lead to the following problems:
– Weakened relationships with suppliers when payments become irregular;
– Loss of prompt payment discounts;
– Weakened relationships with lenders and investors; and
– Increased borrowing with more finance charges and interest expense.
Investors and lenders are hesitant to deal with retailers who cannot indicate a working knowledge, on paper, of their cash flow. These owners generally haven’t prepared and used a cash-flow budget, which is a plan for forecasting cash balances, cash receipts and cash disbursements.
It is simple, but essential. It helps you anticipate how much money you will need to borrow, and when. Most critically, it enables you to tell the lender when you will pay back a loan.
A cash-flow budget is the best tool for keeping a tight rein on the flow of funds into and out of your store. Unfortunately, many retailers don’t consider this budgeting a top priority. The consequence can be — and often is — a business failure.
Keep this in mind: more than one-third of the retail businesses that fail are actually profitable. They simply run out of cash when their creditors have run out of patience.
Thousands of retail businesses close their doors every year. All of those failures are traceable to one or more of the five killers we’ve covered here. Do not let it happen to you.
Patricia M. Johnson and Richard F. Outcalt are certified management consultants and co-founders of The Retail Owners Institute. They are strategists for retailers and publish perhaps the world’s most popular and useful newsletter for store owners and managers. Sign up for The ROI News for free at RetailOwner.com.