1. Understand Gross Profit Margin
Gross profit margin is your total sales revenue, minus the cost of goods sold (COGS), divided by the total sales revenue, expressed as a percentage. This metric gives you an idea of how much of your total sales are retained after accounting for the direct costs involved in making your product.
Understanding this margin will help you understand how your COGS are impacting your business, and where you might need to make adjustments.
2. Calculate Your Operating Expenses and Net Profit Margin
After understanding your gross profit margin, it's essential to take into account your operating expenses, including business expenses like payroll, rent, marketing costs, and more.
These expenses, when subtracted from your gross profit, leave you with your operating profit. If you subtract any other expenses or taxes from your operating profit, you'll end up with your net profit.
Your net profit margin is then calculated by dividing your net profit by total sales revenue, providing a clear picture of your business's profitability after all costs.
Business owners should strive for a good profit margin; however, what's considered "good" can vary. For the retail industry, the average profit margin can range from 2% for supermarkets to 60% for jewelry and cosmetic stores.
3. Understand Retail Price and Retail Profit Margins
As an emerging CPG brand, you should understand the impact of retail price on your profit margins. The retail price is set higher than the cost of production to allow room for both the retailer and the brand to make a profit. It's also influenced by the pricing strategies of competing products.
Both in-store and e-commerce platforms such as Amazon have their own set of considerations when it comes to retail pricing.
For in-store sales, physical factors such as shelf space, location, and point of sale (POS) system can influence the retail price. For ecommerce, factors such as shipping costs, platform fees, and competitive online pricing play a significant role.
Your retail profit margin, therefore, is your net sales revenue after deducting retail costs and the COGS.
Distributor margins for CPG brands
Distributors make money by purchasing your product at a slight discount and selling it at a markup. The distributor margin is the percentage of the sale price that the distributor pockets—but it’s not pure profit, since distributors also have several costs they must cover, such as:
Knowing these things, the distributor margin calculation is easy to calculate.
Distributor Margin = ((Sell Price - Purchase Price - Additional Costs) / Sell Price) * 100
Margin ranges for different types of distributors
Margins can vary a lot, depending on the size and location of your distributor. In general, you can expect distributor margins to fall between 3% and 30%. The actual margin depends on your product category and whether you sell to a national or regional company.
- National distributor: National distributors are generally larger and have lower costs and thinner margins, which they can make up for by selling more products.
- Regional distributors: Regional distributors are generally smaller and must price products higher because of their higher costs, which they compensate for by charging more and taking a higher profit margin.
Retailer margins for CPG brands
A retailer’s margin for CPG products is the percentage of profit they make when selling them. The retailer buys a product at a wholesale or discounted price (the cost of goods sold), sells it in their store at a markup, and keeps the difference.
Like distributors, retailers have additional costs beyond the purchase price, which affects their margins:
- Trade promotions: CPG companies and retailers coordinate marketing events to encourage product sales. These promotions include discounts, rebates, and bonuses.
- Allowances: Manufacturers give monetary incentives to retailers to encourage extra promotions of products. These incentives can involve advertising help and display/slotting allowances.
Knowing these things, we can calculate the retail margin.
Retail Margin = ((Selling price - Cost of Goods Sold - Trade Promotions/Allowances) / Selling Price) * 100
Typical margin ranges for various retail channels
The margin a retailer will see depends on its store type—different types of stores have different operational costs and order quantities that impact their gross margins.
- Grocery stores: Grocery stores typically operate on thin margins, generally ranging from 1% to 3%, depending on the product category.
- Specialty retailers: Because specialty stores offer more unique products, they can command higher prices and therefore higher margins, which generally range from 2.5% to 3.5%.
- Supercenter retailers: Because of their scale, superstores can afford lower margins, typically falling between 0.5% and 3%.
- Online retailers: Because of their unique circumstances, margins for online stores vary more than traditional retailers and range from 5% to 20%.
Factors that influence retailer and distributor margins
Retailer and distributor margins can vary greatly—even if they’re buying products at the same price. Here are a few factors that influence margins:
- Retail channel: Different retail channels can have different margins based on operating costs. For instance, larger stores with more scale can operate on thinner margins because of higher volumes.
- Product category: Different product categories can have greatly different margins due to factors like manufacturing costs and product size. Small, inexpensive products, for example, may cost little to make but can sell for higher prices at a higher markup.
- Brand strength: A brand with more recognition can sell its products at a higher price and offer better margins.
- Competition: Competitive markets have more price competition, so you may need to lower your margins to increase sales.
- Current market conditions: Certain products, like non-vital entertainment products, are harder to sell in tough market conditions and may require lower margins to make sales.
- Supply chain: Factors like shipping, the cost and availability of raw materials, and labor prices can increase production costs and decrease margins.
- Order volume: Ordering products in bulk allows for discounts and higher margins for retailers and distributors.
4. Figure out Your Markdowns and Retail Sales Strategy
Markdowns are an inevitable part of the retail business, especially for perishable goods or products with a short lifecycle. While markdowns can increase retail sales and clear out inventory, they also lower your profit margin.
Therefore, business owners need to strike a balance between maintaining a steady sales revenue and preventing excessive markdowns that can eat into your profits.
5. Benchmark Your Margins Based on Your Business Needs
Benchmarking your margins against industry averages is crucial. This will give you an understanding of where you stand and which areas need improvement. As a small business, especially in the CPG space, it might be challenging to meet the benchmarks initially. However, don't be disheartened; instead, focus on understanding your business needs and continuously improving your margins.
Understanding and navigating retailer and distributor margins is a critical aspect of running a successful CPG brand. With these insights, you can better strategize for a profitable and sustainable business.
How to reduce costs and optimize distributor and retailer margins
Although many of the factors that drive retail and distributor margins are out of your control, there are a few things you can do to maximize your own profits.
Build collaborative partnerships
Building good relationships with your retail and distributor partners is one of the best ways to maximize the bottom line for everyone. When there’s trust, you can be more flexible with terms and work together to create win-win situations for each party. A high level of trust makes it easier to:
- Negotiate pricing based on proven demand and exclusive deals
- Create new trade promotions and offer allowances to increase sales and improve margins
- Combine forces to streamline supply chain logistics
Use different pricing approaches
Experiment with different pricing models to see how they impact your margins:
- Cost-based pricing: Charge enough to cover your costs and make a profit.
- Market-based pricing: Price products based on the market, which may mean a lower profit.
- Value-based pricing: Charge based on the perceived value from the customer.
Monitor performance carefully
Measuring how various actions and variables impact your margins is essential for knowing what improvements you can make to maximize profits. The more data you gather, the better you can understand what impact your actions have and make changes to lower your costs and increase profit.
How Vividly Can Help
A great place to start improving margins all around is with your trade spend. Vividly makes it easy to monitor your trade promotions and collect valuable data that can help you identify ways to tighten up your operations, negotiate better deals with your retail and distribution partners, and increase margins all around.
Learn more about how Vividly makes a difference to see how it fits with your CPG business.