At last week’s B2B Builders of Gainesville, a local networking group, Vince Buono of Costco was the presenter.  Vince, who usually brings some great snacks, also brought some great information.  One of the things that he talked about was Costco’s operational model, a model of high volume and low margin, bringing home the message with the statement that “For every $4.99 jar of pickles we break, we must sell $50 in merchandise to pay for it”.  After working with and being a small business for a few years, it hit me that most of us don’t know what it takes to make-up for a broken pickle jar in our business!

How Many Widgets Do I Need to Sell?

Did your business start something like this?  “If we buy widgets from Bill for 80 cents and sell them for a dollar out of our store, it’s 20 cents for every widget!”  Not bad so far, but the next critical question needs to be, “How many do we need to sell in order to take home an acceptable paycheck?”, followed by “What will it take to sell that many?”.  Whether you need a paycheck immediately, can hold out for some time or can even wait to make the real money when you sell or go public, these questions must be answered. And this, my friends, is business planning.

How Do You Figure?

In my business plans I always start with the revenue – what are you selling, how much can you get and how many can be sold.  It’s important to put this in real physical terms.  How many transactions per day? Is the delivery truck big enough? How many sales calls will be needed? – these are the questions that help determine what you can handle on your own and when you will need capital and resources (the things that bite into your 20 cents) to make it work.

Next we figure the “Cost of Goods Sold”, the 80 cents in our widget example, to get the “Gross margin”.  The cost of goods sold in your business could be for inventory, manufacturing costs or the labor hours of the person you use to get the job done.  After calculating Gross Margin it’s time to project all the different costs that will be required to generate the revenue we think can be made.  These costs will include paying the people we need to hire, renting space, gas to deliver our widgets, bookkeeping, office expenses, telephone – and don’t forget marketing, advertising and sales.  It adds up quick and we often under estimate all the costs in running a business.

So let’s say for every widget we sell, 15 cents will be used to pay the bills necessary to generate that dollar.  This leaves you a nickel for every widget before the tax man takes his bite, we’ll assume a 20% or a penny of the income goes to taxes.  So for the dollar of widgets we sell, it looks like 4 cents is what we can take away.  If you included paying yourself back in the expense portion of this exercise then this is the company profit, but many assume they will take what’s left over and that’s what I did in this example to make a point.

Here’s the Point!

If your business is making 4 cents on every dollar widget before you are paid and you want to make $40,000 per year, you better gear up to sell One Million widgets next year!  This is an eye opener to a lot of start-up businesses who get the operation going and are growing each month but are still only at the rate of 100,000 widgets for the year and not getting any sleep.  Going from our original plan of buying at 80 cents and selling for 20 cents to this high volume business model is a much different picture.  It can be distressing, but the earlier you understand it the better.  Here’s the point – Low margin businesses require extremely high volume, and low volume businesses require extremely high margins.

How Much do You Need to Sell for a Broken Pickle Jar?

This is an extremely simplified model, but one you need to understand as a business owner.  If you need help with the details of your business model there are plenty of professionals out there.  You might start with your accountant, your local small business development center or a small business consultant or coach.  Or, you can give us a call and we’d be happy to work out a business plan for your you!