Recently I recorded a podcast episode about cash flow, and how Ecommerce store owners often don’t understand why they are chronically short of cash in their businesses.
After the episode was released several store owners reached out to me to share their struggles with cash flow. Some were looking for advice, but many just wanted to express their thanks for normalizing a topic that is embarrassing and often creates feelings of failure.
Karen Steuer is a long time client, and owner of Tangled Roots Herbal, a multi six figure business that includes a brick and mortar location and an ecommerce shop.
Karen has been struggling with cash flow for some time, and needs some advice. She’s at the point where she’s exhausted by the stress, and wants to solve her cash flow problem this year, even if it means that she needs to make some hard decisions.
I asked Karen if she’d be willing to jump on call with me so I could have a look at her current situation and give her some recommendations about how she can create a plan to move forward with more cash in her business.
Karen has generously allowed me to share our conversation. We agree that any store owner can follow the process we used to check the financial health of their business.
If you prefer to listen, scroll to the bottom.
Here’s what we did:
I asked Karen to send me her year to date income statement and balance sheet.
When you have a cash flow issue, it’s highly emotional, and most of us think that we can work our way out by working harder and selling more.
The truth is, that way of thinking keeps us where we are. The best way forward is to take a step back and look at the facts. Even though it’s uncomfortable, we need to start with the data.
Is the Business profitable?
I used the year to date [4 months] data from Tangled Roots Herbal Income Statement to gather the data below:
YTD income: $72,570
YTD cost of goods: $37,216
YTD gross margin: 48.8%
Calculate gross margin by 100% minus (Cost of goods / income)
Tangled Roots Herbal has an average gross margin of 48.8%.
In simple terms, on every $10 of sales, Tangled Roots makes a profit of $4.80.
Tangled Roots margin of 48.8% generates:
YTD Gross Profit on sales: $35,414.
Tangled Roots expenses are:
YTD Expenses: $49,407.
Tangled Roots has a YTD Loss of $13,993.
4 months into the year, Tangled Roots Herbal is losing about $3,500/month
When we looked at the expenses, there was one expense that stood out as too high.
The Company’s wage expenses are $22,930, which represents 32% of the total sales, and a whopping 46.4% of their total expenses.
This amount includes labor in the physical location and the cost of various contractors.
It does not include any owner’s wages.
Typical wage costs for product based business should be 15% to 18% sales.
At 18% of sales, the upper limit wage spend for Tangled Roots Herbal is about $3,240 a month.
Year to date, the average monthly wage spend is $5,732, almost $2,500 over the recommended upper limit wage budget each month.
Get a plan to bring monthly wage spend to 18% of total sales in Q3 and Q4.
Cutting expenses is not a long term solution to cash flow shortages.
Even though I think it’s imperative that Karen cut her wage expenses to 18% of her monthly sales, for Tangled Roots, like most product based businesses, simply cutting expenses will not make the company profitable for the long term.
In an established business like Tangled Roots Herbal, the expenses incurred to operate the business, including owner’s pay, need to be covered by the gross profit.
In product based businesses, the gross profit is dictated by the margin we set on our products.
When Karen gets wages to 18% of sales, she’ll free up about $2500 a month.
Year to date, the business is losing about $3500/month.
She must get her wages down and more.
The pricing mistake that will kill your business.
Tangled Roots has a margin problem, and that’s the root cause of the cash flow issue.
Even though many people think a gross margin of 48.8% is normal, it doesn’t tell the real story.
It might surprise you to learn that gross margin percent is much less important than your gross profit (margin dollars).
The simple fact is that Tangled Roots Herbal is not generating enough margin dollars to cover their expenses.
When I reviewed Karen’s website, I could see why her gross profit is low.
The bulk of the products in the store and on the website sell for less than $10, and that’s where the problem starts.
Even though the margin % seems “enough”, Tangled Roots is not generating enough margin contribution dollars to cover their expenses.
Here’s an example of how low the profit actually is:
Tumbled stones: $5.45 = $2.65 profit
Incense: $12.95 = $6.32 profit
Chakra Candles: $19.99 = $9.75 profit
Set a minimum margin contribution dollar amount for every product sold.
Raise prices to reach the margin contribution dollar minimum where possible.
Bundle products to reach the margin contribution dollar minimum.
Can Tangled Roots Herbal return to profitability?
Karen can absolutely make her business profitable again. She’ll need to make some hard decisions, but she has lots of options. Now that she knows the facts, she can make good decisions that will pay her well in the future.
As online Retailers, we need to remember that we control the messaging of our business. We get to decide who our ideal customer is, and we have the power to put together products and messaging at a price that will appeal to our customers and make a profit for our businesses.
Tangled Roots Herbal is a specialist business that caters to people who have an interest or a passion for the products. Karen can let go of her “rules” about pricing, margin, and creating a selection of products and services that fill the needs of a broad audience with a variety of interests. Over the next few months, she can decide on who her products are “for”, modify her offers and pricing to serve that niche, and create messaging and stories that appeal to her perfect people.
By the end of the year, she can reduce her expenses, narrow her inventory and increase her margin so that she can finish the year on a high note.
I left Karen with three things she can do now to get back on track.
- Run an Event that will generate some quick cash this month. I recommend that Karen start liquidating some of her low margin, fringe products. The goal is to sell out and recover some cash.
- Take a few days to think about what you want the business to look like by the end of the year. Who are you serving? What are you selling, and what is your scalable product? Create a one line elevator sentence for your vision. Create and promote a 100% digital product that you can sell online. Your biggest opportunity for long term profit is online. Your online sales are up 22% year to date, while your brick and mortar sales are down 15%. I recommend you work towards closing your store and selling online only.
- Your gross margin needs to be 70% for you to break even. Start this work now.
Karen has promised to get started and report on her progress. I’m excited to see what she can accomplish in the next few months.
If you’re struggling with cash flow, and your books are not up to date, that is your first step. Get it done now. Your data will be the key to solving your problem.
Find the episode about cash flow here: https://thesocialsalesgirls.com/how-to-have-more-cash-in-your-business-episode-164/
Learn how to stop wasting money: https://thesocialsalesgirls.com/youre-probably-wasting-money-on-this-episode-134/
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