- Define Average Order Value
- Define Gross Margin Rate
- Identify strategy to address Average Order Value and Gross Margin Rate
- Identify tactics to build on
Growing past baseline profit as a merchant has traditionally meant balancing price and consumer tolerance. But rising market confidence has the retail industry set to top $3.8 trillion in 2019. It is time for retailers to rethink how they make financial gains. Getting back to the basics, starting with average order value and gross margin, can do exactly that.
AOV is often held above other key performance indicators because it provides a benchmark for in-store and ecommerce growth. But, when it comes to bottom-line potential, finding the right tool for the job that really matters, matters most. And AOV is one step removed from gauging a business’s real capacity to grow. Gross margin is not. Learning to drive margin forward while holding strong AOV may be the winning combination that unlocks growth.
Before discovering strategies to expand margin and AOV, we need to understand what these two values mean and how we can affect them.
The Numbers Part
How to Calculate Average Order Value
Average order value is the typical dollar amount spent per customer when an order is placed.
To find the AOV, first calculate the total group sales revenue by taking the sum of the total revenue in a given period of time (such as months, quarters or years) and then calculate the total number of purchases within that same period of time. Divide the total revenue by the total number of purchases.
While this value is commonly used across all orders, it may also be useful to measure AOV by product category. Combining and recombining the variables of category and time can give precise insights into how business is growing.
How to Calculate Gross Margin and Gross Margin Rate
Gross margin is the amount of money retailers make from a sale after they have paid for the cost of goods sold. Gross margin is calculated as sales revenue minus the product cost. This sum will give the dollar amount earned in each sale. That sum is also the first step toward grasping the relationship between AOV, Gross Margin, and Gross Margin Rate which will later be viewed as a percentage of sales revenue. But, for now:
Sales revenue and product cost can be taken as individual numbers to find the margin on an individual item, or from larger groups like product category or total sales. To compare the typical gross of an average sale to the typical margin gained from that sale, we'll need to find the Average Gross Margin, i.e., the average of a group of sales. A group can be anything from all-sales to a specific category or type of product. Note, the group and time period must remain the same when calculating both the sales revenue and product cost.
Now we have the average gross margin as a dollar value. To make that number proportional, to an entire category, we’ll need to represent those dollar amounts as a percentage of a chosen group’s total sales revenue. To find this value we divide the group’s average gross margin by its average sales revenue.
Now with a firm grasp of how the values within gross margin relate to each other, it is easier to see how to improve that number.
Similar to AOV, both Gross Margin and Gross Margin Rate are dependent on sales revenue. Finding ways to increase total sales revenue is the key to increasing both AOV and gross margin. The trick to growth will be in making those changes while maintaining existing product costs.
The Strategy Part
Consumer Behavior Trends
The most straightforward way to increase total sales revenue without increasing product cost is to increase the selling price. But this practice neglects the customer. Not to mention, the retail market is rife with price competition that traditionally behaves like dueling jet pilots mid dogfight - rolling and nose-diving to stay alive. So, increasing price without adding value is also the most straightforward way to lose customers and decrease profit.
In an industry where titans like Amazon have stalled margin at 2% since 2010, what works?
Leading trends show retail shoppers are gravitating toward seamless experience, customer service and trustworthy business practices. Consumers are not only tolerant of added costs for these benefits, they are actively seeking those trade offs. A study by PWC shows customers will pay 16% more for better customer experience.
Building Trust Rises All Ships
According to a 2018 survey, brand trust plays a role for 92% of Americans when considering a purchase. Building trust can be broken down into 3 key points:
- Product Transparency
- Data Transparency
- Explanation of Benefits
Solving questions around data transparency may be beyond the scope a mere blog post. However, product transparency and explanation of benefits can both be addressed by product warranties. Warranties work by level setting customer expectations of the product and the benefits of making a purchase. In the case of Clyde, warranties are delivered with a unique identifying customer code and a guide that details the benefits of their coverage.
Retailers can offer warranties outside of the manufacturer’s warranty, known as protection plans. Protection plans give businesses a couple operational benefits that help increase total sales revenue without affecting product cost.
- Plans are paid for by the consumer as a form of insurance. With additional product cost moved from the seller to the customer, the seller is able to take a more consultative approach.
- With a partner platform like Clyde, there are no startup costs.
The result of a successful warranty program is clear - outright growth in sales revenue without increased cost. Building consumer trust in your retail brand can be a long, multi-step process. Offering protection plans offers businesses a head start against their competition, while providing opportunity for sales revenue growth.
What Retailers Can Expect
By providing a protection plan, businesses are able to increase consumer trust in their brand while increasing potential sales revenue. Increased sales revenue will raise those ships that depend on it. An AOV including product protection will look like:
An Average Gross Margin Rate including product protection will look like:
Product protection has been around since before the Staples easy button. But, recent digital solutions are expanding this avenue of growth from big-box, in-store, retailers to the broader retail and e-tail communities. That shift has come just in time to meet growing expectations for trust and service options.