Your Dream Studio: Understanding Cost of Sale and Markup with Jeff & Lori Poole
Higher Profits Through Reduced Spending
In last month’s Business Corner, we discussed controlling one of the two types of expenses in your business: general expenses, also known as overhead. Overhead is the money your studio spends to be in business, but is not directly tied to a client sale. Examples include rent, utilities, office supplies and gear. A well-run home-based studio limits its overhead to 30% or less of its gross sales; a retail studio spends 40% or less. Limiting expenses in this way allows you, the studio owner, to keep more of what you make in the form of profits.
To learn more about how to keep your general expenses under control, see last month’s article (September 2018, “Your Dream Studio: Understanding and Controlling Overhead Expenses”).
Defining Cost of Sale
This month, we examine the other form of spending, cost of sale. Cost of sale includes all money you spend serving a client. Here are some of the most common cost-of-sale expenses.
- Cost of goods. The item you’re selling, such as a canvas, album or USB. Be sure to include any upgrades, studio logo fee and shipping from your lab/supplier in this cost.
- Delivery/presentation. Consider costs such as boutique packaging, delivery to client or shipping to client as an additional expense.
- Job-associated costs. Odds are that the job will cost you in some form. Common expenses include mileage to and from the shoot location, meals, props, client refreshments and location rental.
- Merchant fees: These are fees associates with taking credit as payment via platforms like Square and PayPal.
- Contract labor. This is help that you hire on a per-job basis, such as a second shooter, retoucher or album designer. This is different from an employee, which would fall under general expenses.
- Your time. In business, time is money. If you are not charging for your time, you are working for free. Let’s look at this more in depth.
Your Time Has Value
Time is your most valuable resource. It is the one thing you can never have enough of, and it’s the one thing you can’t order from your lab. In order to understand why it’s important to charge for your time, let’s look at a typical retail scenario. Let’s say you own a clothing store. You buy a t-shirt wholesale for $2.50, and you mark it up to $10 retail. The limiting factor on your profits is the number of shirts you can buy. If you can buy more shirts, you can sell more shirts.
Now let’s imagine that you make the shirt from scratch. The materials to make the shirt cost $2.50, but it also takes you two hours to make the shirt. You can no longer sell the shirt for $10 and make a living. At two hours per shirt, you can make only four shirts in a workday. Time, not goods, is your limiting factor. To be profitable, you must factor your time into the price of the shirt. Naturally, your hand-made shirts will be priced higher than factory-made shirts.
Similarly, in photography, time is our limiting factor. Time limits how many shoots we can do, how many images we can retouch, how many albums we can design. Therefore, our product prices are going to be much higher than those of Walgreens and Shutterfly. Those places are selling ink and paper; we are selling our time and art.
If you are not including your time in your prices, you are working for free. The lab isn’t free. The camera isn’t free. The computer isn’t free. The software isn’t free. Your second shooter isn’t free. Your retoucher isn’t free. At what point did you decide you will be the only person not getting paid for your photography?
“But I just edit while my kids are asleep” is a common objection. Do you ever want to stop taking that time away from your family? If your dream studio vision does not involve you sacrificing your free time (and not getting paid), then at some point, you will need to pay for some help. The cost for that help must be figured into your cost of sale.
When deciding on a rate, consider what you would want to be paid to do it. A good starting point is $25 to $30 per hour for contract labor. When you are doing the work, that $25 to $30 goes in your pocket. When you’re ready to hire or outsource, that money is already figured in for the help. You can then reallocate your time to running your business.
For more on outsourcing, check out the video with last month’s article.
Is it possible to reduce my cost-of-sale expenses?
Yes, to an extent. Within reason, it is possible to price-shop your lab costs or search for a lower bid on contract labor. But you’ll get what you pay for. You may end up sacrificing quality for a lower price. Where each photographer falls on the quality-price spectrum is a matter of preference.
Jeff and I recommend price-shopping your merchant services. While companies like Square, PayPal and Stripe are popular and convenient, they do not offer the best rates. Visit CardFellow.com, where you can compare the rates of different merchants based on your needs. [is this allowed? We don’t get a kickback from them but it’s a great resource. They are aware that we refer them in our convention presentations]
One factor that you can learn to control is the amount of time you invest in each job. Photographers have a wide range of time they invest in their work. Jeff and I have mentored photographers who spend over an hour retouching each image, while others spend five to 10 minutes. Some design every album from scratch in Photoshop, and others have learned the time-saving value of design software like Fundy Designer. Learn efficiency. Learn to work more quickly, minimize distractions and invest in time-saving tools to keep your time-costs down. See last month’s video for more time-saving tips.
Managing Cost of Sale Through Markup
If you’ve been following our last couple of articles, you’ll remember that we’ve laid out some basic numbers for your studio budget. Of your total gross sales, you should be spending no more than 30% on general expenses for a home-based studio and 40% for a retail studio. You’re hoping to take home at least 45% of your sales as owner’s compensation (35% for retail owners). That means that you have only 25% of your budget left for cost of sale.
While there are limited ways of controlling cost of sale by cutting costs, it’s important to remember that cost of sale is a percentage of total gross sales. On a per-product basis, each product’s cost of sale should be 25% or less than the retail price of the product. In other words, the most effective method for keeping cost of sale low is to have sufficient markup on your products.
To keep your cost of sale at or below 25%, you need to mark up your cost of sale by a factor of four or higher. In our example album above, our total cost of sale is $283. To keep our cost of sale at 25% of retail, the album needs to retail for at least $1,132.
$283 x 4 = $1,132
Of course, $1,132 is not a round figure. On your price list, you may list the item for $1,150 or $1,199, or some other number that makes sense to you.
Follow the Money
In school, when you finished a math problem, you were taught to check your work. Let’s go back and see where that $1,132 gets allocated:
$1132 Gross Sale
$283 Cost of Sale
$339 Allocated for Overhead
$510 Net Profit
Many photographers are taught simply to multiply the product cost by four. Remember, the lab cost for the album was $180. If we multiplied that by four, we would have a retail price of $720. Unfortunately, neither our cost of sale nor overhead goes down simply because we don’t account for them.
$720 Gross Sale
$283 Cost of Sale
$339 Allocated for Overhead
$98 Net Profit
Ultimately, the only number that goes down is the amount you keep. That’s why it is so important to include the entire cost when determining your pricing.
Cost-Based Pricing Is Tailored to You
This method is called “cost-based pricing” because you determine your pricing based on your costs. It is an effective method because it takes into account the costs of the products you use and your workflow to make you profitable. It is not based on experience, emotion or what other people are charging. After all, we’re building your dream studio, not someone else’s.
There are more complexities to pricing, of course. Most notably, there are different strategies for cost-based pricing when you’re selling à la carte versus packages.
Next month, we will delve into some of these finer points. In the meantime, check out the bonus video for tips on making your price calculations easy.