Table 1. 2017 Financial Performance (All Participants)

Overview of Key Performance Indicators

With Net Operating Income falling from 6.6 percent in 2016 to 6.4 percent last year, traditional retailers felt the squeeze from higher operating costs. Table 2 gives an overview of key indicators – Gross Profit, Sales Expense, General & Administrative Expense, Net Operating Income, and Credit Expense. Most areas of the P&L among the traditional retailers that comprise the statistics in this report held steady with some improvement in Gross Profit due to

0.3 percent improvement in Cost of Goods Sold. General and Administrative Expense increased half a percent, which seems small, but is significant, and Credit Expense, up 0.3 percent.

The importance of controlling all facets of the business is reflected in the higher performance level of the Top Quartile retailers compared to All Participants. These top retailers did better at controlling Cost of Goods Sold, but were not significantly better as a group in controlling Sales Expense as salaries are going up in all industries. They did achieve success with their reduction in General and Administrative Expense compared to the group and also Credit Expense except for large retailers over $100 million in sales. Sales Expense is comprised mostly of sales force compensation, advertising, and warehouse/delivery expense. The biggest chunks of G&A are Occupancy costs (rent/lease) and Administrative costs, primarily administrative and managerial salaries.

Table 2. Key Performance Indicators (% of Revenue)

Each segment of financial performance is presented in more detail below. (Note: Historical 2016 data has been revised from previous reports.)

Above the Line Income

Total Revenue encompasses merchandise sales as well as returns, sales of fabric/leather protection, and delivery income (Figure B). Very little change was noted in any of these areas last year.

Returns: Merchandise Returns (Figure B) represent about 1.2 percent of total revenue for the group, an insignificant 0.1 percent improvement over last year. Smaller retailers tend to handle many of their returns outside of the tracking system with voided tickets and even exchanges.

Meanwhile larger firms are more likely to document these transactions negatively reflecting on their performance.

Merchandise Protection: Merchandise Protection (Figure B) is often an important profitability component for traditional retailers, with the exception of upper to premium dealers, who often consider it a negative. This income usually represents around 3 percent of total revenue with higher performing very large retailers averaging 4.7 percent of sales.

Delivery Income: Free delivery (Figure B) has become the expectation of consumers in all retail outlets, and this is especially true for smaller retailers. The best performing companies have still been able to offset this expense as Delivery Income as a percent of revenue continues to slowly decline.

Cost of Goods Sold

An improvement in Cost of Goods Sold for the retailer is accomplished by either “buying better” or simply not having to discount its merchandise so heavily. The total group last year saw only a

0.3 percent improvement in COGS, 51.3 percent of revenue in 2017 compared to 51.6 percent the previous year. Higher performing companies were able to best that percent usually performing in the 49 percent of revenue range. (Table C)

Table C. Cost of Goods Sold (% of Revenue)

With a small improvement in COGS, Gross Profit also saw small growth as well. For All Participants, Gross Profit grew only slightly from 48.4 percent of revenue in 2016 to 48.7 percent in 2017. Top Quartile performers among all sales ranges reached Gross Profits of 51 percent, except for the size range $25M to $100M who as a group struggled to keep up with the entire group at 48.7 percent GP. (Figure D)

Figure D. Gross Profit (% of Revenue)

One of the paradoxes of the furniture industry is its high gross margins and small profits. The gross margins among traditional furniture stores at 48 plus percent are the envy of many retail sectors. And some vertical furniture retailers enjoy even higher margins due to their direct sourcing models. But according to the Census Bureau, in 2016, gross margins for electronics and appliance stores averaged 31 percent; warehouse clubs and superstores, 23.5 percent; and pure electronic shopping retailers 40 percent. With such healthy margins, why does the furniture industry make so little profit? Tracking how much of it the industry spends on selling the product and running the business brings these low profits into focus.

Selling Expense

After the cost of the goods, Selling Expense is the highest cost segment of the business (Figure E), and this figure has remained constant for several years. This is the cost of attracting the consumer to the store (Advertising), converting that consumer to a purchaser by trained personnel (Sales) and successfully delivering that product to the consumer’s home (Warehouse/Delivery). All Selling Expense categories grew slightly costlier in 2017 with the exception of Advertising/Public Relations.

Figure E. Selling Expenses (% of Revenue)

Advertising Expense. The cost of promoting product has also remained constant at about 6 percent of revenue, although in 2017 that figure fell from 6.2 percent in 2016 to 5.7 percent, a drop of 0.4 percentage points (Figure E). In the Top Quartile companies the numbers did not vary significantly from the All Participants. Advertising channels may differ by size of retailer where larger retailers will use more broadcast/air channels while smaller retailers may rely heavily on print media, but the cost results are similar. Very small Mom and Pop retailers are increasingly required to spend more on advertising to attract customers. It is imperative that advertising’s effectiveness be measured on a weekly basis and the only measure is number of visits – or UPs – to the store or the website. (Figure E)

Warehouse/Delivery/Service: The “after the sale” cost of Warehouse/Delivery/Service is also a significant cost to the retailer. Last year these expenses totaled 6.9 percent of revenue similar to the previous year (Figure E). For Top Quartile performers, the larger the company in our retailer group, the bigger the cost for all Warehouse, Delivery, and Service expense. Top Quartile very small Mom and Pop retailers under $5 million in sales spent 5.6 percent of sales in 2017 compared to 8.4 percent for companies over $100 million. Often a retailer’s upfront performance is negated by the backend if the retailer is unable to manage it correctly. Many mid-sized retailers are now outsourcing this function in an effort to bring this cost down.

Store Sales Expense: A small but important selling cost, Store Sales Expense, averages 1.8 percent of sales for the total group. For the most part, Top Quartile companies do a better job controlling these expenses. Larger companies over $25 million do the best job, spending under 1 percent of revenue on Store Sales Expenses (Figure E). Retail technologies exist to eliminate the sales counter which can cost one percent or more, but can negatively impact the consumer’s excitement for the furniture purchase.

General and Administrative Expense

The final piece to profitability is the control of General and Administrative Expenses, which for the most part, are fixed expenses and must be controlled relative to the potential volume.

Primary components include Occupancy costs – the place to conduct business and the costs to keep it open, the cost of the management team that develops and executes a strategy, and finally the technology and information systems that are essential in controlling the process.

These expenses can be as much as the Selling Expense in some cases and generally vary significantly by the size of the retailer. In 2017, G&A totaled 18.6 percent of revenue, up 0.5 percent from 2016, posting the largest increase of the broad operating segments. This is significant considering this is the one part of operations that does not touch the selling process. (Figure F)

Figure F. General & Administrative Expenses (% of Revenue)

Occupancy: Costs for keeping the doors open ran 7.7 percent of revenue for the total group last year, only slightly higher than last year. The Best Performing companies enjoy Occupancy costs around 6 to 7 percent (Figure F). Many retailers are looking at ways to lower the size of their store footprints as a way to respond to the pressures from e-commerce retailers. Very large retailers over $100 million often have the upper hand with the ability to secure the best locations but real estate rents are escalating in prime areas. Nevertheless, consumers are increasingly placing a priority on location wanting to shop closer to home or visit retailers along their normal shopping routes.

Administrative Expense: The largest chunk of Administrative Expense is management salaries along with bonuses, professional fees, and insurance. Overall Administrative fees for all participants are up from 9.5 percent of revenue on average in 2016 to 9.7 percent in 2017. Top larger retailers over $25 million are keeping their salaries down to 7 to 8 percent of revenue (Figure F). The high cost of hiring managerial positions is often a difficult decision but can often produce big results with the proper personnel.

Credit Income and Expense

Retailers acting as credit houses are disappearing and what was once a key area of profitability is now a crucial place to control costs. Net Credit Expense is up in 2017 to 3.3 percent of revenue compared to 3 percent in 2016. Top Quartile retailers, regardless of size, stay around

2.5 percent (Figure G). From our perspective, credit is a selling expense that has emerged as a perceived necessity to generate consumer traffic. But in our experience, well under a third of consumers opt for offered credit promotions.

Figure G. Credit Income & Expenses (Net % of Revenue)

Net Income (% of Revenue)

After deducting an average of less than 1 percent of revenue resulting from Other Income and Expenses, including Insurance and Taxes, Net Income finished at 3.4 percent of revenue last year, down from 3.7 percent in 2016 for the total group. For the Top Quartile in each size range, improvements in all areas of Cost of Goods Sold, Sales Expense and General and Administrative Expense added up to much higher Net Income for these top performers. Depending on company size, Net Income reached 7.3 percent to 8.3 percent among the top 25 percent. (Figure H)