Edge Erosion: The Silent Killer

Many retail businesses suffer from an insidious ailment that is eating away at their profits. It’s out of sight below the surface of the business, unless you know what you’re looking for! This ailment is margin erosion, which is simply a gradual reduction in your gross profit over time.

The erosion of the banks is gradual, very similar to the natural erosion caused by winds and waves. Margin erosion is like a worm inside an apple. You won’t notice it on the outside of the business; everything will seem to be in order: good sales, good number of clients, etc. But little by little you will end your earnings from the inside out. It is not until cash flow is depleted that a retail owner will begin to notice the effect this margin erosion has had on their business. Suddenly, it will be difficult for you to make ends meet: there will not be enough money to cover your expenses. Which can be disconcerting if everything on the outside looks fine. Fortunately, there is a cure for margin erosion.

Edge erosion, like any force, has certain conditions that follow it better than others. Under the right conditions, margin erosion can eat up the life of a retail business from the inside out. What makes a company more susceptible to margin erosion?

• Lack of margin / GP tracking
• Flawed pricing strategies
• Poor or non-existent expense management strategies
• There is no ‘verification’ of the purchase price when receiving the products in the store
• Excessive discounts or too much ‘selling’ activity
• Bank fees / compliance costs / etc. – quite minor, but retail is a detail and every hundred counts!
• Lack of efficient stock control / cancellation policies
• Employee / customer theft
• Inflation

So how do you check for a margin erosion problem and how do you fix it?

Once you know how to analyze your business finances, you will quickly begin to identify the culprits that allow this insidious ailment to enter your business. You MUST track your gross profit (margin), daily, weekly, or at least monthly. Most current POS software should do this for you, but if not, there are still ways to keep an eye on it (the Retail Prosperity System has a section on how to measure this, I won’t go into detail here). If you are measuring your margin, you will be able to identify trends, and even if it is only falling 0.5%, this will have a big impact on your yearly profit. By measuring your margin and monitoring the trend, you will be able to see if margin erosion is affecting your earnings. If so, then you need to identify the root cause of this and remove it ruthlessly!

Some of the main causes of margin erosion are fairly straightforward to eradicate. Having an effective pricing strategy in place is perhaps the most important of them. In fact, your pricing strategy is one of the cornerstones of your retail success. Two DEFECTIVE pricing strategies are:

• Follow Supplier’s RRP (MSRP) – Many retailers are terrified of deviating from this figure, but they don’t even understand how the supplier came up with that figure! Complying with RRP is a sure way to erode your margin.
• Apply a universal blanket / mark. I’m amazed at how often I see this: cost + 40% or cost + 100%, whatever the number, many retailers are still using an arbitrary margin method to price their products. Not only is it a lazy pricing method, it goes against what retail is all about: BUY the best you can, SELL as much as you can, while maintaining healthy billing.

If your retail business is using one of these strategies, talk to me or buy The Retail Prosperity System – it covers this topic in detail and describes the same pricing strategy that I use in retail (and unlike many of the so-called retail experts,! I have a very successful retail business of my own!)

Another vital cause that is very easy to prevent is simply checking your purchase prices. Most providers ‘reserve the right to change prices’ whenever they wish. And you will be surprised how often they do it without informing you! Every time you receive products, check that the purchase price is the same as before. If it has increased, even by 1-2%, then you have a problem: call your provider and ask for an explanation.

If you want to profit (and profit well) from retail, you need to be on the lookout for margin erosion. There are many causes, but in the vast majority of cases, the cure is simple and will cost you nothing more than a little time. Sure, time is a valuable commodity in retail; We all know the curse of the retailer: the half-drunk cup of coffee! But take the time, it could be the most valuable investment you have ever made in your business!