There are two factors, often hidden, that can slowly kill off or totally destroy a successful eCommerce business. These two factors – alone or combined – can have a massive impact on the financial performance of your business.
While it might seem easy to ignore these numbers or leave them off your sales tally, here’s why you should be paying more attention to your discounts and returns.
In this article:
Look at your books
Let’s dive into why these two factors can kill your profitability with a straightforward example.
Let’s keep it simple and say you sell each unit for $100. Each unit has direct variable costs of $54, taking into account the product cost, international shipping, merchanting fees and customer shipping.
That leaves you with a 46 per cent gross profit margin. You beauty, right?
But now watch what happens if you have an average discount rate of 10 per cent, and an average product return rate of 10 per cent.
Now instead of putting 46 per cent back into your pocket, your business is walking away with just a 33 per cent gross profit margin.
It’s easy to see why you shouldn’t ignore these numbers.
Don’t discount discounting
It’s always tempting to offer a 10, 15 or even 20 per cent discount to attract new customers. It’s an easy and popular tactic to make more sales and move more stock.
But few founders actually step back to review how much discounting is hurting their bottom line. While it might win you new customers, it also kills off your profitability.
Those mega Black Friday sales? They’ll help you reach record high sales targets, but your eCommerce business may be left with a loss.
Yes, your marketing advisor might pressure you to offer discounts, but make sure you also listen to your wise accountant. We’ll tell you this tactic isn’t a bad one, but please consider and calculate the long-term consequences that discounting can have on your business.
Tactical discounting done right can boost your business. An eCommerce business may offer discounts in exchange for valuable data and the potential of repeat orders down the track (without needing to pay for ads).
As alternatives to discounting, you could try adding value, offering gift cards or future purchase credit, or a membership program.
Customer returns are killer
Discounting is the obvious killer of margin, but the less obvious culprit – customer returns – can be equally destructive.
Consider all of the direct costs of dealing with returns and exchanges. That’s double the shipping absorbed by you (depending on the generosity of your returns policy, of course) plus all the additional costs of handling, storing and reserve shipping the product.
Most businesses can resell items that have been returned in top condition, but not all businesses are able to.
Think about Casper, the direct-to-consumer mattress retailer as an example. This bedding company can’t resell its mattresses despite its generous return policy. Why? A few reasons.
One, it’s hard to jam a mattress back into that small box.
But two, and much more importantly, nobody wants to sleep on a “new” mattress, soiled with a stranger’s back sweat. That’s simply gross.
For Casper, all its mattress returns are sunk costs. Those returned mattresses will end up in charity bins and landfill.
The point is, discounting and return rates can erode your profitability quickly. This is why it’s important to measure and monitor this number and percentage.
To reduce your return rate, you can add add accurate and detailed product information (dimensions, weight, materials, and size guides) to your product descriptions; improve your photography or use augmented reality technology (to allow the customer to try on at home); enforce better quality control by ensuring you ship the correct items in better packaging so products arrive unbroken; and highlight customer reviews to give prospective buyers a better sense of what to expect.
Sales isn’t the only metric
Putting extra work into your numbers and accounting gives you a more complete story about the financial health of your business.
As we’ve shown above, these little numbers can have a massive impact on your bottom line and eat away at your precious profits.
If you’re an eCommerce business owner, share this blog with your bookkeeper to make sure they are accounting for discounts and returns in your profit and loss analysis.
And, of course, if you want help from an eCommerce accountant, simply give us a call here at SBO Finance. We’d be happy to help.