The last does not go with the first two
The first comparison is the person that in difficult times decides to hide their money under their mattress. Of course, when they return to get their money from under the mattress, the amount they take out is the same as what they put in. While the stock market might not be a good place to put your money, at least a savings account at the bank would produce some interest.
Then there is the thought of buying bottles of wine and that old adage that wine improves with age. And for many wines, that scenario is true; up to a certain point.
Lastly, we will compare the money under the mattress and the aging bottles of wine with inventory. Simply said, there is no true comparison of inventory to wine and mattresses from a positive standpoint. We simply see many businesses holding onto inventory long after it needs to be sold.
Unlike the money under the mattress, as the inventory sits on the shelves of businesses, it does not have the same value after several months. Consumers are always looking for the latest, greatest and most fashionable as they shop. Therefore as inventory ages it has less value to the customer because of what is more recently available. In addition, the inventory on hand becomes more costly because it represents money that in a simple form could have been sitting in a savings account at a bank earning some interest.
More importantly, the key factor in the profitability of a business is the ability to turn the inventory. As an example, a business purchases a product with a cost of $25 and decides to ‘keystone’ it, selling it for $50 and producing a 50% gross margin.
Each time the business sells the item and reorders it, this is considered a ‘turn’. And each turn, produces $25 in gross profit. However, if the item does not sell because it was not a popular item, or because the business ordered too many, the money will be sitting on the shelf in the form of unsaleable inventory. It will in essence, be like the money under the mattress - not producing any income.
The resolution would be to get rid of the inventory on hand, even with no gross profit, so that new inventory could be purchased in the expectation it would have multiple turns. While you are likely to have businesses challenge your logic, the math will back up your suggestion.
Using the business owner’s process, the $25 will sit on the shelf until someone eventually walks in the door. If it takes a year, the business owner will have a gross profit of $25. If the business owner will sell the item for cost and then buy another item, as soon as they achieve a two time turn, the business owner has exceeded their initial plan.
While we can easily solve this mathematically, it is the logic of the business owner that seems to baffle us. So let’s take a look at the situation from the business owner’s position.
Many of them have opened their business in your community because they are already living there. They did not choose the community because it would be the best place to open a business.
The second component is to look at the business they own. Why did they choose this particular industry? If they are the succeeding generation in the family business, it is easy to see; they grew up in the business. For many others, they choose the industry because they happen to like the products they sell; they did not open the business because they thought these were the products and services that would sell well in the community. Further, in selecting the inventory you can tell them they have two choices; they can select inventory they think their customers will like or they can try to find customers that like the same items the business owner likes.
The concept of marking down merchandise becomes a situation of which the markdown is representative of customers saying they do not like the person that owns the business. For the small business owner, a markdown is a defeat; it is a personal situation in which they begin to ask out loud what is wrong with the residents of the community. “What is wrong with these people? Don’t they like me? Don’t they recognize good merchandise when they see it?”
As we mentioned, one solution is understanding how to buy what will sell as compared to buying what you like. A second component is having a system of controlling inventory. As an example, the jewelry store buyer creates a plan for the sales of men’s watches, lady’s watches, wedding bands, necklaces, earrings, and all of the other groups of products they sell. As they project their anticipated sales they consider their gross margin and using those two numbers accurately calculate how much inventory they need on hand for each month to produce the sales they expect.
Buying more inventory than the business is going to sell in a season means there is definitely going to be excess inventory sitting on the shelf. It is a simple process of math combined with selecting inventory that appeals to the target customers. Not having enough inventory on hand means the customer is going to go somewhere else to make their purchases.
There was an advertising campaign by one of the wineries in which they said, “We will sell no wine until it is time”. While that may be an appropriate statement with regard to wine, it does not apply to the inventory within the businesses of your Main Street district.
With inventory, it does not get better as it ages. And simply stated, “it’s time!”