“Cost of Goods” is a term we’re all familiar with. But what about “Cost of Sales”?
The two are – and SHOULD – be totally separate animals. Your Cost of Goods is what it costs you to PRODUCE your items, to take them from a vision in your head to an actual finished piece you can hold in your hand. COGs is generally things you can touch, or labor that is directly attributable to specific items. But COGs only make your pieces, COGs doesn’t sell them.
That’s where Cost of Sales comes in. This can take many forms, from a commission you pay a sales person, to advertising, to social media, to a booth fee at a show. It includes transportation to a show, hotel expenses at a show. And believe me, it can add up quick.
When your brand is very young, and just starting out – and if you don’t have a lot of hard sales costs – you can get away with tucking your Costs of Sales into your overhead. But the moment you begin writing checks for show fees or booth costs, you’d better have a “Cost of Sales” account in your chart, AND in your pricing matrix.
Where does that go? On our pricing matrix we put it into COMMISSION, because we don’t employ sales reps at the moment. You might need an additional CoS slot as well, depending on how you’re structured.
I hear you… “I don’t have a sales rep.” I don’t sell wholesale”. “I only want to sell retail”. Follow me young padawans….
Do you have a website? Do you pay for that?
Do you ever do any kind of show where you pay a booth or show fee?
Do you ever drive to shows or sales meetings?
Do you ever stay in a hotel overnight for a show?
Do you buy displays?
How about stuff to transport you pieces in?
Do you ever pay for “Promoted Pins”, or Facebook ads, or Twitter campaigns?
Do you have a Mailchimp account?
Do you have linesheets, postcards or order forms printed?
Do you ever buy stamps to send sales materials?
Congratulations. You have Cost of Sales.
And I will bet that if you add all of this up over the course of a year, you’ll need a glass of wine (or three) to calm the case of nerves that number gives you, because it is eating into your margins big time.
What is the difference between Cost of Sales and regular overhead? Cost of Sales are expenses directly attributable to seeking or making sales. There is no other business purpose for Cost of Sales activities other than to make a sale. You go to a show to meet buyers/clients for why….? To make a sale, either on the spot or in the future.
You print and send out postcards and other mailings why? To get your line or piece in front of buyers in hopes of a contact in hope of…? Making a sale. You maintain a website so that people can find you so that they can see your work so that you can…? Make a sale. Rent, and utilities and such are overhead, because they are not directly attributable to EITHER sales or manufacturing.
So, how to account for Cost of Sales when figuring your pricing?
If you DO have a sales rep, and do NOT do shows or spend significant money outside of paying your rep, you can probably get away with embedding your Cost of Sales into your overhead. (check out this article for how to figure your overhead)
If you do shows or incur additional heavy expenses IN ADDITION to your sales rep commission, you should consider an additional Cost of Sales component in your pricing matrix
If you do NOT HAVE a sales rep, I strongly suggest you figure your pricing as though you had one, and allow for a commission rate – even if you do not plan on hiring a rep in the near future. Without a rep, you will incur your own sales expenses faster, like shows, mailing, phone calls, (your time… helloooooooo) etc. Allowing for a rep commission in your pricing (perhaps with an extra few % thrown in for good measure) will make sure that you have ample resources to tackle both opportunities and necessities as they come along.
Here’s what your formulae would look like:
- (Materials+Labor) x Overhead % = COGs
- COGs x Multiplier (example 2.2) = Preliminary Wholesale
- Prelim Wholesale + Commission/Cost of Sales (example 15%) = Final Wholesale
- Final Wholesale x Multiplier (example 2.25) = Retail
Let’s put that into practice.
Let’s say we have a sparkly thing that has $22.00 worth of materials in it, plus one hour of labor. Your labor rate is $25/hour, so you calculate $27.75 to take employer taxes and such into account. Packaging expenses of $1.50. Let’s figure overhead at 10%. That brings our COGs on this item to a total of $56.38.
WITHOUT any Cost of Sales figured in, at a multiplier of 2.2, I get a wholesale of $124 for my sparkly thing, and a retail (at 2.25 x wholesale) of $279.00
That sounds pretty good, right? Make it for $56, sell it for $124. What could be wrong with that? Here’s what could be wrong with that…
$2,000+/- Show Fee
$1,000+/- Hotel & Food
$800 +/- YOUR TIME that you’re out of the studio
Hours at show @ $25/hour x 32 for a 4-day show (PLUS travel time)
TOTAL $5,000+/- show expenses
… and that’s only if you didn’t have to pay for electricity, or a zillion other things that shows soak you for nowadays.
How many of those $124 sparkly things do you have to sell JUST TO COVER YOUR SHOW EXPENSES? I hope you’re sitting down, because the first 80 of them you’re making for free. You didn’t make a single penny if you priced them without a commission – every cent of your margin is going to show expenses.
On the other hand… If you priced in a 15% commission with each piece (thereby raising the price to $142.50 or so), you have almost $19 on EACH ONE to go towards your Cost of Sales. Granted, you’ll have to sell almost 300 to cover your show fee with commission – but that’s not a huge show for most of us. AND YOUR MARGIN IS INTACT. Not a single penny of your hard earned margin is impacted by your show fee. NOT ONE CENT. (and if the show is a total biter, the first 62 break you even)
Do I have your attention yet? How’s this for an argument for a Cost of Sales equation in your thinking? Are you on the bus with me now?
When that buyer from The Dream Store shows up at your booth, table or showroom, they make certain assumptions about your pricing based on the prices they see on your sparkly things. And if you ever want to have a relationship with that buyer, your retail prices had better reflect not only a reasonable wholesale price beneath them, but a healthy Cost of Sales behind that.
I hear you saying, “But I only do retail. I can absorb all kinds of stuff at $279!” Yes. Yes you can. Until the day the buyer from The Dream Store that you’ve only lusted over in your dreams walks up to your booth, picks up your sparkly thing, introduces herself, and says, “This is exactly where we’re looking for. Do you have a linesheet? Can you ship 500 pieces by next month?“
Go ahead and dismiss this. But it DOES happen. And when and if it does happen to you, do you want to be:
A) ready to whip out a linesheet with pricing that’s healthy for you to ship 500 sparkly things – or at the very least be able to talk pricing intelligently.
B) shrink sheepishly under your table muttering “I’m not really set up for wholesale…” while the buyer from The Dream Store sets your sparkly thing down, and says, “Wow.. that’s too bad… these are really beautiful…” and walks away, never to be seen again.
The choice is yours. Be ready now. As the Roman philosopher Seneca said, “Luck Is What Happens When Preparation Meets Opportunity” Will you be prepared when Opportunity shows up?
The bottom line is, if you want your business to support you (you know, like pay YOUR bills, and not just ITS bills), you have to charge real world prices. And that includes Cost of Sales. Because that’s a real, legit expense.
Need guidance in how this works in your business? Schedule a private session with me, and I’ll guide you through exactly how this works specifically for your pricing and market segment.