This is part 4 of an 8-part series where we examine each of the cornerstone back office systems to reveal the issues in integrating them to the world of unified commerce. This blog focuses on the accounting systems which determine cost of sales and gross margin, typically the applications known as Stock Ledger or General Ledger. To start with, let’s begin by explaining what we mean by the Stock Ledger:
Traditional stock ledger systems, whether on the retail or the cost method, average the cost of all sales within a category location over an accounting period. This practice unfortunately ignores what is happening in Unified Commerce. In Unified Commerce, the costs of doing business are wildly different based on the customer path to purchase and based on the supply chain differences between domestic vs foreign sourcing. The result is that when using a traditional stock ledger system in the world of Unified Commerce retailers have no way of tracking the cost of sale at a level where they can actually do something about it.
What’s new about Tracking Cost of Goods in the world of Unified Commerce?
Simply put, the inventory accounting systems must take on the responsibility of tracking margin erosion, at an actionable level, for each type of Unified Commerce purchase. What is the actionable level? It has to be SKU Store – considerably below merchandise category/location, or GL account number/location.
This gives rise to questions: IS IT TIME TO THROW OUT THE TRADITIONAL STOCK LEDGER? Well, yes. But retailers still using the retail method are unlikely to do this without a lot of soul searching. Stock Ledgers have remarkable staying power since the gross margins they compute are tied to bonuses and are invaluable in understanding year to year performance. Still, it would be useful for data integration specialists to create the analytical foundation for accurately measuring cost of sales and gross margin.
How is cost of sale impacted by customer path to purchase?
Let’s consider two pairs of blue jeans, each retailing for $89. The first is purchased by a regular customer without any sales help. Since the item cost $30 the cost of sale on this one transaction is $30. There are no measurable costs for selling, promotion or fulfilment. Now, let’s consider an identical pair which is sold to a customer who purchased it online. This customer was attracted by a $20 coupon offered to new customers for merchandise valued above $75. She chooses to pick up the item at her local store. When the transaction is made, the order management system prints an advisory to a store person to remove the pair of jeans from the shelf and place it in a customer pick up area. However, after five days, the customer has not picked up her jeans and so the associate notifies the customer. Unfortunately, the customer gets confused and she calls the customer help desk who cancels the original order and issues a store credit. She then goes to pick up the pair of jeans using her store credit which causes an internal accounting cost. The original store receives a request to transfer the one pair of jeans to replenish the fulfilling stores’ inventory. Combined handling costs directly attributable to the transaction are $114. The gross margin of the first pair jeans is $59, the second is -$25. Farfetched? Not really, these kind of digital commerce accommodations are eroding margins without detection across the industry.
What direct costs of sales can be captured?
There are three distinct categories of variable and controllable costs: Selling, Promotional, and Fulfilment.
Selling costs are sales commissions and special sales incentives.
Promotional costs are discounts, coupons, direct costs associated with digital advertising and the costs to sign up for loyalty programs.
Fulfilment costs are the costs of packing, shipping, storing, billing, and contacting the customer.
Each one of these costs can be captured and assigned to the selling transaction.
What indirect costs can be captured?
There are other substantial costs that can be allocated to the sale. Certainly, the costs of running a website are dramatically different to the costs associated to operating a store and in turn the costs from social media are different to those of a call center. But, if all four of these costs are instrumental in making a particular sale, shouldn’t that transaction then carry a higher cost of sale?
What about supply chain variable costs?
The back-office systems that manage inbound receipts and invoices are also important sources for building a strong foundation for managing margin through data integration. In most retail inventory systems that we’ve seen, the calculation to derive item profitability does NOT include several potential costs of goods that can be a major factor in determining the true landed cost and whether the item is profitable or not. These include: vendor chargebacks, trade discounts, vendor cost adjustments, and distribution handling charges.
What about markdowns?
Most Retail Stock Ledger systems combine all kinds of markdowns into one. Once upon a time we could separate the types of markdowns into three categories – Permanent, POS, and Employee. But now digital retailing has spawned so many of new types of markdowns that we should consider getting rid of the term “markdown”: Buy One Get One, Loyalty redemptions, Social network incentives, vendor coupons, mall coupons, Digital commerce transaction fees/appeasements, etc. Most of these margin erosion element can be assigned to the selling transactions.
Again, our message is not to throw out the old Stock Ledger system. We simply believe that retailers can make the most out of the Stock Ledger in today’s age by tracking the true costs of sale, as well as supply chain costs and promotional costs. This should be done in the Analytics Platform upon a solid foundation built through data integration.
1. ENRICH YOUR SALES TRANSACTIONS with variable costs captured by your Order Management System. Feed these transactions to your Analytics Platform to determine the true cost of sales and the true margins.
2. DEVELOP DATA INTEGRATION between your Accounts Payable system and Inventory accounting systems to reflect cost variances, vendor chargebacks, shipping and landing costs, and vendor credits.