Expanded Profit & Loss Statement
Calculating the P&L Components (Section 2, Part 3)
We recommend printing off the course content reference guide to assist you in the second section of How to Think Like a Buyer courses: Manipulating Profit Variables: Merchandising for a Profit.
Gross sales are expressed as the total retail prices, both cash and charge, paid by the end consumer to the retailer for all merchandise and services before any deductions in retail price. Gross sales are used for determining the customer return rate.
A high customer return rate might indicate a problem in the retailer’s merchandise selection (e.g., fashion level, assortment mix), poor or lower quality merchandise than expected by the customer, or merchandise prices that are higher than the competition or more expensive than what the customer perceives as the value of the product.
The formula for calculating customer return rate percent is:
Customer Return Rate % = Customer Returns + Allowances $ ÷ Gross Sales $
- Decrease or lowering in the price and/or value of an item
- Depreciation of goods
- Amount deducted from the current retail price
- Loss of inventory
Reductions are unavoidable in the operations of a retail store however they must be monitored and controlled since a change in retail price most likely will impact the bottom line of the retailer. For example, an increase in reductions greatly impacts net sales and can trickle down to cause a decrease in gross margin and subsequently reduce profit.
Reduction $ = Customer Returns & Allowances + Employee Discounts + Markdowns + Shrinkage
Cost of Goods Sold
Cost of goods sold is also known as the invoiced cost of merchandise, the wholesale cost of goods, or the billed gross wholesale cost of goods. Cost of goods includes the cost of goods on the beginning inventory plus the cost of goods purchased during a specific period of time.
When placing an order during a market trip or writing a reorder to replenish quick-selling merchandise, the buyer frequently tries to negotiate with the vendor in order to obtain a lower wholesale cost on the merchandise. Some manufacturers establish the wholesale cost and do not negotiate for lower prices on their goods until the end of their shipping season. Others do not negotiate at all.
For example, many designer and national branded apparel companies do not negotiate wholesale costs of goods since they have established a status image, marketing their product based on quality, price, and brand equity. Also, these companies may sell several retailers that are located close to a specific geographic area. Therefore, since a reduction in price will impact the image of the product, they do not want the merchandise to be discounted or sold off-price during the peak selling season.
Cost of Goods Sold $ = Invoice Cost $ + Transportation $ (including insurance)+ Alterations $ – Cash Discount $
Maintained markup is the markup on the merchandise that is sold to the consumer. It is the difference between the gross cost of goods (i.e., invoice cost of goods, transportation including insurance) and the actual retail price of the goods when sold. It is the markup that relates the wholesale cost of goods and other costs charged by the vendor, as well as the extra costs of handling of goods and additional income, to the profitability of the store. It is based on actual sales and actual happenings in the retail operation.
On the expanded P&L statement, maintained markup is a line entry and is expressed in both dollars and percent however for use in the daily operations of a store, maintained markup is usually expressed as a percentage and is calculated as a percent of net sales. Even though maintained markup could possibly be the same as initial markup (i.e., when goods are sold at the original price), it is usually lower than the initial markup due to reductions (i.e., markdowns, shrink, discounts, customer returns) that must be taken in day-to-day retail store operations. Initial markup is planned; maintained markup is based on actual retail sales and cannot be planned in advance.
Maintained Markup $ = Net Sales $ – Gross Cost of Goods Sold $
Gross Margin & Contribution Margin
Gross margin is the difference between net sales and total cost of goods sold (i.e., invoice cost + transportation + alterations – discounts). Remember, gross margin dollars must be larger than the operating expense dollars in order for the retailer to make a profit. Thus, gross margin must cover both operating expenses and profit, or the store will incur a loss.
Since the total cost of goods sold includes invoice cost of goods, transportation, alterations, and cash discounts, the following gross margin formula may be used for calculating gross margin on the expanded P&L statement.
Gross Margin $ = Net Sales $ – (Invoice Cost of Goods $ +Transportation $ + Alterations $ – Cash Discount $)
Gross Margin Return on Investment (GMROI)
Gross Margin Return on Investment (GMROI) is the interrelationship of gross margin, turnover, and markup percent. It is a financial performance measure utilized to keep a check on the retailer’s bottom line. In today’s highly competitive marketplace, the retailer attempts to produce more profit by increasing sales on less inventory. If the retailer can reach or increase planned sales volume on “lean” inventories, then the gross margin will increase. GMROI measures the number of gross margin dollars produced per dollar of average inventory invested by the retailer.