How We Set Prices
November 6, 2015
Margins are like salaries; if you have a good one you’re supposed to keep it to yourself, if you have a bad one you’re supposed to keep that to yourself too. In this blog post I want to slay that sacred cow and talk about margins & money. If you already have a sense for how consumer goods are priced, then none of this will be surprising. But if you’re seeing it for the first time, you might be interested to know where the retail price of a product actually goes. It’s fresh on my mind because this topic came up several times at the Portland motorcycle show last weekend.
Most outdoor and action sport companies are manufacturing at the same/similar factories using the same/similar materials, and sometimes even the same/similar designers, because designers move around. Companies try to mask this through fashion and aesthetics – i.e. by developing their own distinct ‘look’ – or with all kinds of marketing and branding stuff that increases the ‘perceived value’ without changing the cost of the product. But there’s only so much a company can do when they face the same basic economics as everyone else. At retail, you typically get what you pay for.
Here’s the highlights:
- A bag you bought in a retail store for $400 cost around $100 to make, a 4X markup over factory cost is normal in soft goods.
- The store where you bought the bag paid ~$200 for it, then they doubled the price before selling it to you for $400.
- The company would love to sell you that bag for less than $400 if they could, but if they did their retail stores would drop them.
- If you buy from a company that only sells direct (like Mosko) you’re paying as little as 2X (instead of 4X) the factory cost.
Soft goods make four stops on their way from factory to consumer.
The product gets marked-up at each stop, and nearly half the cost is tacked on at the very end by the retailer. I’m not suggesting that retailers are getting rich off this arrangement; retail is a really tough business and they need every penny of markup to cover their payroll, rent, advertising, etc. It’s expensive to feature a product on retail shelves and have it merchandised and advertised in a way that consumers find appealing. Even when you’re doubling the price, it’s still hard to make money in retail.
Companies are OK with this arrangement because a) they depend on retailers for most of their business, and b) when a company sells direct through their website at the full retail price, they’re making a 75% gross margin.
I should note that in the motorsports industry, retailers tend to take a slightly lower margin than in some other outdoor markets like skiing/cycling gear, but the total markup comes out about the same: 3.5-4X factory cost.
Direct Sales Model
In a 100% direct sales model – i.e. no retailers involved – the product skips the last stop on its way to you, and a company like us can afford to sell it for much less than what you’d typically expect to pay.
In the past, most companies who sold direct typically packaged their offering in one of two ways:
- Really Low Prices: For an example of this, picture the late-night commercials advertising ‘factory direct pricing.’ The fundamental message here is that ‘our products are just as good as everyone else’s, but we cut out the middle man and pass the savings on to you.’
- Really High Margins: These companies set their prices at the same level as companies that sell through retailers, but they keep the extra margin for themselves, often spending it on marketing, catalogs, or company-owned stores.
Our strategy is different: we take the ‘retail margin’ and put it back into the product itself. In other words, we design the bag without regards to cost, adding whatever features, hardware, and materials are best, then we mark it up the same as any normal company would. Our margins come out the same, but our prices seem a lot better because there’s no retail markup. The price you’re paying would normally be considered ‘wholesale’ or ‘pro deal’ pricing.
A consequence is that we can’t offer the same show specials and seasonal promotions as other companies, because we have a smaller delta between factory cost and retail. We’re not trying to be the lowest price option, we’re trying to create the design flexibility to produce a more evolved product. Actually our bags are some of the most expensive on the market right now, but viewed as a multiple of factory cost they’re also the best deal. In retail stores they would cost nearly twice as much.
Two Models Compared
Here’s what the two models look like side-by-side.
We’re still a tiny company that recently introduced our first products, but we want to grow our bag assortment and expand into riding apparel as well. This direct sales model is part of how we can carve a niche for ourselves. There’s an opportunity here to make better gear without moving already-high price points even higher. Without retailers, we’ll always miss out on walk-in business, but for folks who do their own independent research we can offer something really cool.
Oh yeah, the Portland show was great! Thanks for coming out despite the rain!!