Many new business owners face the following dilemma: In order to
charge a competitive and reasonable price for products, they have
to order in great volume to get a discount. Since they're just
beginning their business, how is it possible to buy in such bulk if
they're just testing out the market and have limited
resources?
For entrepreneurs that sell physical products, the decisions you
make on pricing strategy and supplier strategy are critical. Even
if your business sells services rather than products, you'll
regularly face the dilemma of when to buy in bulk, how to manage
your cost structure and how this will impact the price of your
service.
Deciding whether your business should buy in bulk isn't as
straightforward as deciding whether to shop at Costco for your
household. Your business has clients and competitors, while your
household does not. If your price isn't competitive, or if
product quality isn't satisfactory, your clients can take their
business elsewhere-while it's unlikely your kids will pack up
and move out if the quality of paper towels doesn't meet their
standards.
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Startups in unproven markets face an additional complexity when
deciding to order in bulk. Established businesses in proven markets
are more likely to make supplier decisions based solely on
maximizing quality and minimizing cost; whereas if demand for your
product is unproven, it's a leap of faith to throw down the
cash for a bulk order.
When your startup is faced with the decision of whether to order
in bulk, there are several issues to consider:
1. How do you differentiate your product from
competitors? If you've decided to position your product as
a low-cost alternative to competitors, you have little choice but
to reduce your production costs by ordering in bulk. However,
startups typically aren't able to enter a market as a low-cost
alternative. For example, California-based POM Wonderful recently
released bottled pomegranate juice through retail channels and
decided to set a $4 to $5 retail price point for their large-size
juice bottles. This price point is significantly higher than
alternative juice bottles, but they've opted to differentiate
their product based primarily on health benefits rather than cost.
(Pomegranate juice is good for your heart.) Very few startup
companies are able to release products with a cost advantage over
established competitors; therefore, ordering in bulk usually
doesn't make sense for young companies.
However, if your product is more like orange juice than
pomegranate juice, ordering in bulk will often be necessary to
compete. If it's difficult to differentiate your product from
competitors, and if price is the main driver of consumer purchases
in your market, you'll be faced with the dilemma of buying in
bulk. Assuming there are hundreds of suppliers of orange juice in
retail aisles, a juice maker will need to order oranges in bulk
even when starting out.
2. Can you do market research rather than an in-market
test? Many entrepreneurs assume that in-market product launches
are the only way to test a product. This isn't true. You can
sidestep the dilemma of ordering in bulk for an unproven market by
focusing on how to prove the market-that is, how to prove to
yourself that the size of the market for your product will justify
a bulk order. You can cost-effectively gather intelligence on how
likely your product is to sell at different price points by
speaking to clients and asking them. Armed with good market
research, you should feel more confident in placing bulk orders
even at the startup stage. For example, if your market research
shows that twice as many consumers will buy pomegranate juice if
it's priced at $3 per bottle rather than $4 per bottle, then
you may decide that you need to order pomegranates in bulk to make
the business thrive.
3. How much do you believe in your product? For some
entrepreneurs, ordering in bulk is a testament to how much they
believe in their product. Andrew Carnegie once famously declared
that the way to make money is to put all your eggs in one basket
and guard that basket with your life. If you genuinely believe that
your product will sell, and that keeping costs and prices down is
necessary to make this happen, then ask yourself if you're
willing to live dangerously and take the risk of placing a bulk
order. I would recommend (and I'm sure Carnegie would agree
with me) that you should take this plunge only after some degree of
market research validates your belief.
4. Can you find alternatives to buying in bulk? There are
some creative ways to realize the cost benefits of buying in bulk
without making a substantial financial commitment. Try negotiating
with your bulk supplier to extend the duration of your order-with
termination provisions added to the contract that allow you to
cancel the order the future. Since your supplier's salespeople
may be paid with quarterly volume bonuses, they may agree to
termination clauses more readily than they would lower volume
orders. For example, try ordering three years' worth of supply
rather than a one-year supply, but be sure to spread out the
payments over the life of the contract and add in an enforceable
termination clause. If you believe in your product and your
enthusiasm is contagious, your suppliers will be more likely to
agree to such terms and share in the risk of your product's
success. I'm always amazed how much easier it is to negotiate
termination clauses than cost discounts for small orders.
Some bulk suppliers also have excess inventory that they'll
sell in partial shipments for bulk-level prices. Try calling
suppliers at the end of the month and at the end of the season to
capitalize on these deals. It never hurts to ask!
Finally, it's worth investigating whether your industry
offers a buying club. Much like Costco does for households, buying
clubs aggregate the spending power of several small-business buyers
in the form of an association, co-op or membership-based club. For
example, in some states, startups can purchase employee health
insurance for corporate-level rates by joining small-business
cooperatives. Self-employed independent contractors can purchase
health insurance and other services by joining organizations like
Working
Today. Buying clubs and industry associations have historically
been more common in manufacturing industries rather than services
industries, but they've recently grown in popularity due to the
internet and e-mail user groups.
Asheesh Advani is president of CircleLending, a
loan administration company that facilitates personal loans,
small-business loans, and mortgages. He and his company have
written the Small Business Financing Guidefor startups and
have helped small businesses in more than 30 states launch and
finance their growth.
The opinions expressed in this column are
those of the author, not of Entrepreneur.com. All answers are
intended to be general in nature, without regard to specific
geographical areas or circumstances, and should only be relied upon
after consulting an appropriate expert, such as an attorney or
accountant.