5 Reasons Why Even Profitable Retail Businesses Fail
(Hint: “Declining Sales” Is NOT One of Them!)
by Patricia M. Johnson and Richard F. Outcalt
A dismal statistic: in the United States alone, on average 1 retailer fails every 12 minutes. Five failures per hour, 24 hours per day, 365 days per year. Whether or not there is a pandemic raging.
People who get their understanding about retailing from the popular press or from political rhetoric often believe that declining sales – “Comp store sales are down” – is the death knell of retailing. However, declining sales does NOT make the Top Five Killers list.
We will examine each of the Top Five Killers of Retail Businesses. While they all need the respect of you, the owner or CEO, your highest priority always must be the #1 slayer. And it just might surprise you to learn what it is.
(Here's another hint of what it's not: over one-third of the retail businesses that fail are actually "profitable.")
Retail Failure Reason #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.
See more here: How to Read and Use a Retail Financial Statement
Retail Failure Reason #4: Out-of-Control Expenses
Productivity. Making each dollar count. Getting the greatest return on each dollar spent. Yes, we’re talking about expense management—the #4 killer of retail businesses.
Expense management may sound like an old idea, but today, it’s more important than ever. Ignore it at your business’ risk!
- In retailing, your major expenses may seem fixed (i.e., 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”; what a menace those are!
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 #3 killer: Gross Margin.
See How to Use Your Retail Profit Margin to Grow Your Business
Retail Failure Reason #3: Failing to Manage Gross Margin
The #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?” 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 my 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 53 Retail Segments found in Store Benchmarks here on The ROI site.) 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 who remain “special” can actually raise their margins in many cases. The key is, “Better buying for your better customers.”
How to do that? See Focus on Customers for Greater Profitability with the Retail STRATA:G® WHEEL
Another key to managing Gross Margin is using a tool called GMROI – Gross Margin Return on (Inventory) Investment.
- The ROI considers GMROI to be the #1 measurement of inventory productivity.
- GMROI should be in every retailer’s arsenal. It is a powerful way to compare stores, departments, even vendors! Take a year’s gross margin dollars for a particular line of product and divide by the average cost value of inventory in that product line. Compare this dollar return with other product lines.
For more on this powerful productivity tool, see Gross Margin Return on Inventory Investment and How to Calculate Your GMROI
Retail Failure Reason #2: Out-of-Control Inventory
All retail businesses that carry inventory have special problems. Inventory is the “engine” of every retail business.
- It generates all of the Gross Margin dollars.
- It is responsible for customer satisfaction (or the lack of it.)
- But inventory also soaks up cash, often lots of it.
Inventory has one more unique feature: the pressures to buy more and more of it. Just think about this: 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 sometime customer you run into at a neighbor’s party!
How to offset all this pressure to over-buy or buy the wrong thing?
- 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 the budget! The real pros in retailing respect their OTB plan as highly as any responsibility they have.
To get started, see How to Do a Retail Inventory Buying (Open-to-Buy) Plan
The #1 Reason Even Profitable Retail Businesses Fail: Being Out of Cash
“Profit cures a lot of ills, but cash flow pays the banker’s bills.”
Poor cash management is the #1 killer of retail businesses today. Producing 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.
Increased borrowing with more finance charges and interest expense.
Bankers 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 the 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 for themselves. The consequence can be, and too often is, a business failure.
Check out Save Time, Money and Frustration with this Simple Cash Flow Plan
Keep this in mind: over 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.
And finally, this dismal statistic: every year in the U.S., on average, one retailer fails every eleven-and-a-half minutes, 24/7, 365 days. To be sure, 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!
©Copyright, The Retail Owners Institute® and Outcalt & Johnson: Retail Strategists, LLC.