Nice Accounting Adventures: Margin Analysis
Better flow than Lamar
Do phrases like COGS, Sales Tax, Contribution Margin, and Cash Flow give you the night sweats? (🙋♂️) Between managing inventory, navigating supply chain delays, and keeping up with product promotion—throw in a looming tax season and some heady accounting jargon—and you’ve got a recipe for some serious nightmares.
But never fear! Our pals, Accountfully, are helping us sleep a little easier by breaking down the top five accounting things we need to understand as eCommerce businesses.
This week, we will be discussing Margin Analysis. We have split that topic into four main sections: 1. How to COGS, 2. Margin Analysis 3. Margins Across Sales Channels, and lastly 4. Cost to Acquire a Customer. Let’s get into it!
1. How to COGS
An important step of conducting a margin analysis is first understanding your costs of goods sold (COGS for short). COGS refers to the direct costs of producing the products sold by your business. This amount includes the cost of the materials and labor directly used to create your product.
On top of your balance sheet, you should try and have a centralized document that tracks your costs, so you can get a better idea of COGS. We will refer to this document as the “COGS doc”.
You can make your COGS doc really simple or very complex, depending on a few factors:
- The number of variables in the process. Do you have a complex supply chain? What about multiple inventory accounts? These things will drastically increase the number of variables you need to account for when making your COGS doc.
- Timing between sales vs shipping. The date of sale should be the ship date.
- Number of sale channels at play. If you only have one sales channel, that would greatly simplify your COGS doc. But what about when you have two, three, or 14?
- Warehousing locations and freight cost.
- Prepaid Inventory. This should be accounted for when you have it.
The more complex all of the above factors are for your specific case, the higher the level of accountant you will require. In general, we recommend being as detailed as possible, because more information on your COGS doc will allow you to get a more accurate idea of your COGS and your margins.
Pro Tip: You should also add to your COGS doc any “freebies” and any damaged goods. Do NOT neglect these, as these can often lead to discrepancies later down the line.
2. Margin Analysis: Gross, Contribution, and Operating Profit
He is REALLY happy about the projected increase in sales
Another key aspect of maintaining good cash flow (remember: that is what Elsa wants for you. And she is the queen), is to plan ahead. Here are a few ways to do this:
- Earmark cash for future launches
- Explore longer terms and maintain good supplier relationships
- Explore alternate funding options like cash flow loans, but be wary of rates
If you are not staying on top of your cash flow by planning ahead, your cash-on-hand may run low. This means that even if your business is technically making enough money to cover all expenses, due to the timing of the incoming revenue, you could find yourself temporarily unable to pay for something really important, like your payroll. Needless to say, that would be an absolute disaster…and all it takes to avoid disaster is good planning! Turns out our moms were right all along: an ounce of planning in accounting is worth a pound of gold (Was that just my mom that had that version of the quote? What about “an apple a day keeps the doctor’s-and-big-pharma’s insanely high prices away”? That one is universal, right? Love you mom! Never stop thrifting like an absolute queen!).
Conversely, if you handle your cash flow well, you could cover payroll and all your expenses even while the business is technically losing money. This is commonly known as “operating at a loss”, and if you think that would only work in small companies, think again! Some really big companies operated at a loss for years, while employing thousands of people and growing at a tremendous pace (here are just a few examples: Amazon, Facebook, UBER, Twitter). And that, my friends, is the magic, the beauty, and the power of good accounting.
3. Freight and Shipping Considerations
Besides solving the Evergreen fiasco with one simple word, Ross would’ve also been a fantastic start-up cofounder
If you have overseas suppliers, try to stay well informed regarding how long customs will take. You should have a plan already in place for any expected delays, but unexpected delays will still happen. These post-COVID days, it might just be better to assume delays will happen, and have your response ready, something we discussed in more detail in THIS article.
Even Bernie knows the importance of cash flow…up until we abolish capitalism, of course
See you next week for Part 4: Inventory Management!
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