Since we are interested in online retailing we can use a much simpler definition.  For retailing, the cost of goods sold is the price paid for the product plus additional costs necessary to get the product into inventory and ready for sale, including shipping and handling.  When drop shipping,  the wholesale suppliers price you pay plus the drop ship fee, if any, and any postage and handling equals the costs of good sold.  If you buy bulk from the wholesaler and have the items shipped to you business then the cost of goods sold would be the whole sale cost of the product plus the cost to ship the product to your business and any shipping and handling costs to ship the product to your customer.  If you use multiple product sourcing methods then your COGS is the sum of all methods used.

Drop shipping:    COGS = wholesale price + drop ship fee + shipping & handling cost
Bulk purchase:    COGS = wholesale price + wholesale shipping & handling + customer shipping & handling

Another way to determine your COGS is with the periodic method.  Using the periodic method, COGS is equal to your inventory at the start of the period plus purchases made during the period less inventory at the end of the period.

Gross Profit

Once we know our cost of goods sold we can calculate our gross profit.  Gross profit is simply the difference between our total revenue and our cost of goods sold.  This tells us the total (gross) profit we’ve made.  You need to make sure our gross profit is the same or higher than our operating expenses or our business will be losing money.   I will discuss operating expenses in my next post.

Gross profit = revenue – cost of goods sold

Gross Margin

Gross margin is very similar to profit margin and they are calculated using the same basic method.  The key  difference is gross margin uses total revenue and cost of goods sold from all of your sales while profit margin is revenue and cost from single sales.  Another way for view them are: gross margin is the average margin for all of your sales.  Profit margin is the margin for a specific sale.

Gross margin = (total revenue – total cost of goods sold) / revenue

One thing I forgot to mention in the post Wholesale Markup versus Profit Margin was that markup and margin have an inverse relationship.  This means that you can easily calculate one if you know the other.

Wholesale markup = 1 / profit margin
Profit margin = 1 / wholesale markup.

The same calculations can be used to determine your average wholesale markup.  The average whole markup would be equal to 1 / gross margin.

Related Posts:

1. Wholesale Markup versus Profit Margin

Wholesale Price of Item + Markup = Retail Price

Retail Price – Wholesale Price of Item = Profit

Wholesale markup is the amount you add to the wholesale price of an item to calculate the item’s retail price, expressed as a percentage of the item’s wholesale price.  The wholesale markup tells us how much we add to the price of the item to calculate the retail price.  So wholesale markup = $ amount of markup / Wholesale Price of Item.  If an items costs $5 and we mark it up $7.50 the wholesale markup is 150% ($7.50 / $5.00).

Profit margin is the amount you make off the sale of the item, expressed as a percentage of the retail price.  The profit margin tells us how much of the retail price is profit.  So profit margin = Profit / Retail Price.  If we sold an item for $12.50 and the profit from the sale is $7.50, then the profit margin is 60% ($7.5 / $12.50).

If we used our profit margin instead of the wholesale martup to calculate our retail price we could be in trouble, even cause our business to lose money in the long run.  All of our business’s operating expenses, including our salaries, are paid out of the profit from product sales.  Lets assume you need a 150% wholesale markup  so you have enough profits to pay your operating expenses and yourself.  But instead of using your wholesale markup to calculate our retail price you use your profit margin.  The product costs $5.00.  You markup it up 60% or $3.00.  This makes the retail price $8.00.  You  make only $3.00 per sale instead of the $7.50 you need.  You end up losing your salary and hoping you have enough to cover the rest of your operating expenses.

Related Posts:

1. Cost of Goods Sold, Gross Profit, and Gross Margin

To help answer this question check out idea hotspots.  Lisa Suttora of WhatDoISell.com coined the term “idea hotspot” to refer to anything or any place that “provides you with an unending source of new product ideas, of market trends, of developing niches, and product line education. It is a fertile ground for product ideas.”  These hotspots help keep you in touch with what people are looking for, what they are buying, what’s hot, and what’s not.

If all of your ideas come from one or two places you are limiting yourself.  Keep your eyes, ears, and mot importantly your mind open.  Always, be watchful for new ideas whether you are at home or out-and-about with family or friends.  Here are just a few idea hotspots you can check out.

Home or office – We buy things for our home or office all the time.  We want our space to be more inviting, cheerful, or carefree.  We decorate for the holidays or entertain our friends regularly.  A good idea may be sitting on the corner of your end table.

Newspapers – You can get ideas check out the lifestyle section, business section, and sports sections of local and national newspapers.  Check out what the big stores are advertising.

Magazines – There are hundreds of magazines available that cover niche products, hobbies, and markets.  These can be a great source of ideas for niche products.

Malls and local retailers – Keep your eyes and ears open when you go out shopping.  Look around the stores and see what they are selling, what are the specials, and discounted items.  See what the other shoppers are buying and what are they talking about.  The local mall can be a hot bed of ideas.

Trend spotting websites – Check out trend tracking web sites like pulse.ebay.com, www.trendwatching.com, www.influxinsights.com, and www.trendhunter.com.

Upcoming movies – TV and movies drive product trends.  If you know what the upcoming shows are you can stock up on related products before they become scarce.  Imdb.com maintains a list of movies that is going to be released in the coming year.

Carry a notebook of some kind with you, whether a PDA or spiral notepad, and write down your ideas as they hit you.  If you’re like me you forget stuff all the time.  I’ll come up with 10 idea then forget 9 of them before I have a chance to invetigate any of them.  Write down your ideas so you don’t forget them.

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Work from home – No need to set the alarm to go off in the morning.  No more hour long commutes to get to work.  No more cramped work spaces or annoying co-workers.  You have a more relaxed and comfortable work space. You can go to work in shorts or your pajamas if you like.

Flexible work hours – Work when you want to.  You decide how much or how little you are going to work.  You decide which holidays to take off and when to take a vacation.

Satisfaction of being your own boss – You’re now in charge.  No one else is going to tell you what to do.  You get the satisfaction of making your own decisions and expressing your own ideas.

Creative freedom – You have the freedom to express your own creativity.  You can show your creative side through your work and how your present yourself online.  You can show who you really are.

Can operate from anywhere – You’re not limited by a physical store front or office building.  Since the business is online you can operate for anyplace you can get a internet connect.  All the tools you need are available online as well.

Start small – You can start out small, then expand as your business grows.  Many small business can be started with just a laptop and an internet connection.  There is no need to invest $1,000s in inventory.  Use a company like World Wide Brands to find a few items you want to sell and auctions them on eBay, drop shipping the items to the highest bidder.

Inexpensive to start and maintain – Contrary to what many people think, starting a small business online is very affordable.  You can get started for as little as $10.  There are a great many free tools and resources available online to help you run your business.  You can find web hosting for as little as $5 a month.  A good web host like Blue Host makes setting up your blog or web store very easy.

Addition income source – When you’re first starting out your online business can be a nice supplement to your monthly income.  As the business grows you may be able to replace your traditional job.

Unlimited income potential – There are literally millions of ways your business can make money online.  Any one of them can be a good source of income.  But online you are not limited to just one or two or, even, a few ways to make money.  You can make money from as many ways as you like, giving you unlimited income potential.  Auction stuff on eBay.  Open an online store, or two, or three.  Create several affiliate marketing site.  Start a blog.  You’re only limited only by your imagination.

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Getting legal is not difficult and every business that wants to be successful needs to do it.  The basic for forming a legal (retail) business in the U.S. is listed below.  The actually requirements will vary from state to state.  Check with your city, county, and state offices for the exact requirements where you live.  I will provide links to additional resources as I can.  Each step should be done in the order listed.  Later steps will require information obtained in earlier steps.

1.    Get an Employer Identification Number (EIN) – An EIN is also known as a federal tax identification number, and is used to identify a business entity that is legally separate from yourself.  Getting an EIN is optional for a sole proprietorships and general partnerships unless they have employees.  An EIN is required for all other business structures.

U.S. Internal Revenue Service
Phone: 1-800-829-4933

• Guide to the Employer Identification Number
• Apply for an EIN Online

2.    Register for a State Employer Identification Number (SEIN) – If you have or are going to have any employees you must obtain a SEIN.  Getting a SEIN is optional for a sole proprietorships and general partnerships unless they have employees.

• In California: Am I Require to Register as an Employer

3.    Register Fictitious Business Name – If your business name is not your own personal name, it’s referred to as an assumed, or fictitious, name.  Registrations of this kind may also be known as a DBA, or “Doing Business As.”  Depending on where you live, this registration can be obtained from a state agency or a city or county clerk’s office.

• Business Name Registration

4.    Get a Seller’s Permit – This is also known as a Use Tax Permit or Certificate.  This permit authorizes you to collect sales on taxable items sold in your store.  A seller’s permit is required for you to legally resell any item purchased from a wholesale supplier.  Also, the wholesaler cannot legally sell you any business without a seller’s permit.

If you are drop shipping then a seller’s permit may be required in each state the wholesale drop shipper has a physical presence.  Ask the wholesaler where their warehouses are located and about their sale tax requirements.  Also check with each state where a warehouse is located.

5.    Open a Business Bank Account – You need to keep your business and personal asset separate.  If you use a single bank account for your personal and business finances then the IRS cannot tell which transactions are which and you may be subject to some hefty fines and penalties.  You must have a separate business account.  All business transactions are done through the business account.  Personal transactions are done through your person account.  This is especially important if you have a limited liability business structure.  You will lose your limited liability status if your business and personal assets are not kept separate.  If you plan to accept credit card payments from your customers you need to have a business bank account.

6.    Open a Merchant Account – If your online store is going to accept credit card payments then you need a merchant account.  When someone buys an item from you store and pays with a credit card, the credit card transaction is processed through your merchant account.  The merchant account will verify the customer’s identity, collect the money from their credit card company, and deposit the money, minus a small fee, into your bank account.

Getting your business legal may seem overwhelming at first but is actually quite simple and well worth the time.  Getting legal also allows you buy from wholesale suppliers which gives you access to many more products at lower prices then you are aready paying.

Here are some great additional resources for anyone wanting to start their own business:

• Business.Gov
• California Tax Service Center
• Starting Your Internet Business Right
• Free Product Sourcing Video Course

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The #1 question asked by online retailers is “What should I sell online?“  The simple answer is “sell products that people use every day, not ones they see every time they browse the internet.”

The reason your selling stuff online is to make money.  Lots of people know what they want to sell online, but have no idea if they can actually make money.  Market research is the only way to know.  Market research is the process of gathering information about a product to determine if you can make a profit selling it.  You need to know things like the amount of demand for the product, how much competition is there, how much interest is there in the product, what keywords are people using to search for the product, and how much can you sell it for.  After you’ve gathered all this data you need to analyze it to figure out if you can make money with this product.  The analysis can also help you determine where the product fits in your product strategy (up seller, cross seller, loss leader,  etc…).   Repeat the research and analysis for each product you want to sell.

It is important to record everything you find.  You will be gathering a lot of information.  Its just too much for anyone to remember every detail.  So record everything to make the job of analyzing it much simpler.  When your done with your analysis keep a hold of all the data you gather.  You will want to use it 6 months or a year from now to compare against the new data you’ve gather for the product to see how much things have changed.

Demand is the number of shoppers searching for a product.  Shoppers enter various terms into the search engines, like Google or Yahoo, trying to find the product they want.  They may try many different search terms until they find just what they are looking for.  We need to find out how people are using the search engines to find the product we want to sell.  There are a number of web sites available that track the number of searches made and the search terms used.

Competition is how many other vendors are selling the product we want to sell.  You want to find out how many vendors are selling the exact product, how many are selling similar product, how many are selling exact and similar products, what similar products are they selling, which are the most popular vendors, how are the popular vendors presenting the product, and which vendors feature the product.  You need to get online and going into the competitors stores.  Act like someone shopping for the product.  Use the Google, Yahoo, and other search engines and enter the terms you saved when determining the demand for the product to find more vendor.  Use any other search term you can think of.  Investigate all the vendors you find.

Price is what you need to sell the product for to make a profit versus what your competitors are selling it for.  Determine the lowest price you could sell the product for and still make your desired profit.  How does this price compare to the competitor prices.  If its a lot higher then that may not be a good product to sell.  If its a lot lower then you may have a winner.  You can raise the price to be more comparable to competitor prices and earn more profit from each sale.

Keywords are the search terms shoppers use to find the product in the search engines.  All those search terms you found while determining the demand for the product are your keywords for the product.  Use these keywords on the web store pages for the the product.  Google will find these keywords on your product page and include the page in the search results for those keywords.  Finding and using the right keywords for a product is incredibly powerful in bringing search engine traffic to your store.

Advertising is how you let online shoppers know about your product.  If you are going to sell online you will need to advertise your product some how.  Pay-per-click (PPC) advertising is the most widely used methods.  Go to the main PPC search engines (Google, Yahoo, Overture, and FindWhat) and look at the competitor’s ads.  Use all the keywords you’ve found so far looking for how many are advertising with those keywords and what do the ads look like.  If there are a lot of advertisements then there is a lot of competition.  Look at the competitor’s ads.  Use ideas from the ones you like the most to come up with your own ad.

Analysis is where all the above data is brought together and considered as a whole.  You have to look at all of the data collected for Demand, Competition, Pricing, and Advertising, and make a decision on how they all balance out.  There is no simple method or process for doing this analysis. Here are a few things to consider while analyzing your data:

• Not enough demand vs competition means there are not enough buyers.
• Too much competition  vs demand means not enough profits for everyone.
• Too much advertising drives up the price of PPC ads.
• Competitor prices too low means you will make little to no profit selling the product.
• Not enough demand vs advertising could mean a declining market.

Market research can be a long tedious process.  Take your time when doing market research.  Your business will have a much better chance of success when you do it right.

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You need to pay close attention to the condition of any items acquired through a liquidation sale.  The items may be new or used.  According to World Wide Brands, brand new products that are still in the box, never having been opened, are more the except than the rule.  The items are being liquidated because the owners did not want them.

Before you buy any liquidated item make sure you understand why they are being liquidated.  Possible reason are:

• The manufacturer made too many.  They over estimated the market or some manufacturing problem occurred.
• The wholesaler purchased too many units.  They over estimated the market, the item did not sell well, or someone order 10,000 units instead of 1,000.
• Left over from last season.  Product demand has dropped to virtually nothing because everyone wants the latest and greatest item instead of last years.
• Item was returned to the manufacturer or wholesaler.  Returned items that are in good shape may be thrown into a liquidation lot that gets sold off at the end of every season.
• Items may be purchased from a company close out sale.  I’ve worked for 2 companies that went out of business.  All company assets ended up being sold to liquidators for pennies.  The liquidators junked everything they thought they could not sell and sold everything else.  The first company even sold 35 computers to another company who was looking for a cheap way to set up a new data center.  I was lucky enough to earn a little extra income helping this company refurbish those computers.
• The manufacturer or wholesaler are going out of business.   Be very careful with this one.  If the manufacturer goes out of business then any manufacturer warranties may  no longer be valid.

Liquidation is not a renewable source.  You may find a great selling product.  But once that product is sold out it is gone. You’ll need to find another source if you want to sell any more.  These items can be good for up selling, cross selling,  and as loss leaders.  Use these inexpensive items to bring customers into you store with very low prices.  Then display your more expensive, high profit margin items next to the item to encourage your customers to buy the other products.  Also, display complementary items and accessories to encourage cross sales.

Liquidators are not drop ship companies.  They will not ship product directly to you customers one item at a time.  When you purchase a liquidation lot then products are sent to you.  Just like with wholesalers you need to store these items and package and ship them to your customers.

Liquidation sales should not be used as the sole product source for you business.  But can be a valuable resource to fill out your product line and help draw customers into your store.

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Buying in bulk will allow you to get goods at lower prices.  This will give you a competitive edge in price driven markets like the internet.  With lower costs you can offer more attractive prices to your customers.  Experienced online shoppers will check out several different store looking for the lowest prices.  They are trying to get the best deal they can find.  Paying wholesale prices for your products lets you offer them at prices your customers will like and will help bring them back if they feel they are getting a good deal.

Using light bulk wholesaler:

1. Find a light bulk wholesaler you want to work with and open an account with them.
2. Place an order for the products you want to sell.
3. Inspect every item when your products arrive from the wholesaler.  You want to make sure none of them are damaged.  If any are damaged let the wholesaler know as soon as possible.  They will work out a replacement arrangement with you.
4. Display images and descriptions of the products in your store.
5. When a customers purchases an item, you charge their credit card the price of the item plus shipping and handling.
6. Package the item properly.  This step is critical.  You do not want the item getting damaged in any way while being shipped to your customer.
7. Ship the item to your customer.
8. You now have a happy customer who’s excited about the the item they bought.

You profit is the difference between the retail price of the items purchased and the wholesale price of the items plus a small credit card transaction fee.  For example, an item is purchased for $60, wholesale cost is $28, and the credit card transaction fee is 30¢ plus 2.2%.  Your profit would be $30.38.

$80 – ($28 + $0.30 + $1.32) = $80 – $29.62 = $30.38

$1.32 is 2.2% of $60.  The shipping fee is the cost of shipping the item to the customer.  The handling portion of “shipping and handling” is the cost of the materials (boxes, bubble wrap, etc…) to properly package the item for shipping.  These costs are passed directly to the customer.  Shoppers are used to paying “shipping and handling” fees when making purchases online.

Light bulk wholesaling works well, and is a low-cost entry into buying wholesale products in bulk.  Supplementing you product sourcing with light bulk wholesalers should be a part of your sourcing efforts if you plan to sell in a price driven market.

It’s also important to remember that light bulk wolesalers are general wholesalers.  They are general wholes who are willing to sell in light bulk quantities.  They are happy to give you better pricing if you purchase larger quantities.

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• Use of bulk sms software revolutionized the communication process
• Wholesale Suppliers Guide – buying wholesale | whole sale jewelry
• Can Clothing Wholesale Ship To The Customer And Not The Owner For Your Online Business? | Bump Auctions
• Directory Canyon » Blog Archive » How Good Are Chinese Light Bulk Wholesale Suppliers
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1. Where to Find Products to Sell

“a supply chain management technique in which the retailer does not keep goods in stock, but instead transfers customer orders and shipment details to either the manufacturer or a wholesaler, who then ships the goods directly to the customer. As in all retail businesses, the retailers make their profit on the difference between the wholesale and retail price.”

Drop shippers are wholesalers and manufacturers who are willing to ship products directly to a business’s customers, one item at a time.  This provides a great opportunity for whether you’re just getting started with your web business or are an existing company wanting to try out new products or markets.  Drop shipping allows you to sell brand name products in your store without having to first buy them.

Here’s how drop shipping works:

1. You find a wholesale supplier will to drop ship the products you want to sell and open an account with them.
2. You receive product images and descriptions from the wholesaler which you post to your web store.
3. A customers searching your store decides to buy an item from you.  You charge their credit card or Paypal account the retail price of the item plus “shipping and handling”.
4. You email the order to the wholesale supplier along with the customer’s name and shipping information.
5. The supplier sends the item directly to your customer, with your name on the package.
6. The supplier charges you the wholesale price of the item plus shipping costs and, usually, a small handling fee.
7. Your customer gets the item they purchased and you get another happy customer.

You profit is the difference between the retail price of the items purchased and the wholesale price of the items plus a small credit card or Paypal transaction fee.  For example, an item is purchased for $60, wholesale cost is $36, and the credit card transactional fee is 30¢ plus 2.2%.  Your profit would be $22.38.

$80 – ($36 + $0.30 + $1.32) = $80 – $37.62 = $22.38

$1.32 is 2.2% of $60.  Not too bad, and you never had to touch the item.  This example assumes the postage and drop ship or handling fee charged by the supplier were passed on to the customer as the shipping and handling fee they paid.

The drop ship or handling fee charged by the supplier is to help cover their expenses for providing the shipping materials and packaging the item for you.  Remember, they need to hire extra employees to package and ship the products one at a time.  It also takes additional package materials to ship items one at a time than it does to ship several at a time.  The drop ship fee can be passed on to customers on a per order basis as a handling or added to cost of each item.

Most suppliers will charge the drop ship fee on a “per address” basis.  This means the fee will charged once for each address the supplier ships items to regardless of the number of items or boxes shipped.  Some suppliers will charge the drop ship fee on a “per boxes” bassis.  This means the fee is charged for every box shipped regardless of the number of items shipped or number of destination addresses.

To work with wholesale suppliers you must have a valid business name and a tax Id.  A true wholesaler cannot legally sell you products for resale without these.  Also, avoid wholesalers who want to charge you an “account setup fee” or a “monthly fee” just to open an account with them.  These are more likely to be someone trying to pass themselves off as a wholesaler then be a true wholesaler.

Here are a few companys dedicated to helping small businesses find wholesale suppliers willing to drop ship.  They do not carry products themselves or ship any product.  These companies have gone through the process of finding legimate wholesale supplier willing to drop ship.  They are a great resource to work with and will save you a lot of time, money, and headaches.  Each of these companies also provide a lot of educational materials to help you suceed in business.

• World Wide Brands
• Doba
• Salehoo
• Shopster
• China Vasion

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• What is the best home-based business to start-reasonable start up costs? | Small Business
• How To Choose A Drop Ship Company | Internet Marketing
• eBay Dropshippers | Real Wholesale Dropshippers | FreeVH.com Build a Virtual Home
• SaleHoo – How Does Jewelry Dropshipping at SaleHoo Work? | BizOpSyndicate.com
• Common Dropshipping Scams And How To Avoid Them « besthotbuzz.com
• Drop Shipping For Sellers: A Complete Guide To Making Money On eBay Without The Risk | eBay | Not Really Secret of eBay Secret
• The Easiest Way To Make More Money In Your Existing Business | How to Invest Today
• Supply Chain Management
• How To Make Extra Money From Wholesale Products « besthotbuzz.com
• NHL Jerseys Wholesale Available Online | NFL Jerseys

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Core Products – These are your main products, the core of you business.  These products have a high demand from your target market and provide a solid profit margin.  These products represent a large percentage of you overall revenue.

Cross Sellers -These products or accessories that relate to your buyer’s primary product of interest.  Each of these products has a different profit margin associated with it, but each serves an important function and contributes to your overall profit margin.  These products are memory card or cash you sell with the digital camera your customer just bought.

Up Sellers -These products are more expensive, higher-end versions of a product.  Typically, up-sellers are displayed next to the regular product version, to entice buyers to upgrade.  These products can contribute substantially to your overall profit margin when buyers decide to buy the upgrade instead of the base model. These products are the 8 Megapixel and 10 Megapixel versions of the 6 Megapixel camera your customer is considering buying.

Rounders -These are complementary products that round out your product selection.  These products are part of offering your customers a complete shopping experience.  These would be the batteries and lens paper you offer along side your digital cameras.  You might not make a large profit off of them, but it’s convenient for your customers and makes their buying experience more satisfying.

Loss Leaders -These are products on which you are just breaking even or taking a small loss to draw people to your store.  Display cross sellers and up sellers around these products to encourage customers to buy other products.

Providing a diverse, well-rounded product selection can boost your sales, gives customers a motive to come back, and presents you with an opportunity to build repeat business.

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• CSM 10 – Analyzing the market and yourself « Fundamentals Group
• The Secret To Product Marketing Online | Earning Online Solutions
• Use Videos To Hit A Bullseye With Your Target Market | Affiliate Idol – Learn Affiliate Marketing Tips
• I run a small business. How do I conduct target market research?
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