Being a keen accountant, foodie, and bargain hunter, this combination of things has gotten me interested in understanding how food retailers account for markdowns.
A markdown is the opposite to a mark-up, and is typically utilised to move slow moving or perishable inventory when supply exceeds demand.
I first came across this concept at Edgars, a clothing retail company we acquired in Zimbabwe. During a period of rampant inflation, the company had vastly overpaid or stock, and then had to mark it down considerably in order to sell it to free up cash-flow, therefore causing massive losses and cash-flow problems for the company.
I live a couple of hundred yards down the road from a Waitrose, this has become our supermarket of choice, due to its location, rather than its prices! It is perceived as a premium supermarket in the UK, with prices generally more expensive than Tesco, Sainsbury etc.
British supermarkets all tend to have yellow stickers for marked-down goods. It catches the eye immediately if you know what you’re looking for, and often the discounts can be generous, over 50% sometimes.
With perishable goods, the closer a product gets to its “use by” date, and more urgently the supermarket needs to sell the goods and will start marking down the products on a tiered scale based on how long until the sell by date arrives. It is illegal to display good for sale which are beyond their use by date.
Having shopped many times at the Waitrose, I’ve noticed a pattern that Friday nights from about 6pm tend to have some of the best deals. But also other evenings during the week can have good deals too.
So yesterday I go into Waitrose expecting to buy a couple of things for the house, but come out with a whole basket. I spent about £40, buying a whole lot of easy to prepare meals that had an original retail price of £84, thus saving me £44, or 53% in the process. Which in this “cost of living crisis” is welcome. And of course, being ready meals, they will save a lot of time too for when I get back from work late.
But for a supermarket, how do they account for these markdowns?
Let’s start at the beginning of the process, using a pack of teriyaki pork belly slices (one of my favourites) as an example. For simplicity I will exclude the VAT effect and just look at sticker prices.
The product was advertised for sale at £6. Let’s assume the supermarkets aim to make a 40% gross profit margin on these products, so the original cost from supplier would be £3.60.
The first accounting transaction is to record the stock and the payable to the creditor:
Dr Inventory £3.60
Cr Accounts Payable £3.60
The supermarket then marks-up the inventory by 67% to a selling price at £6 and puts it on the shelf for sale. A 67% mark-up gives a 40% gross margin.
Sales are slower than expected (perhaps due to poor weather), or the planning department over-forecasted sales leading to an oversupply of inventory. The supermarket then begins to mark down the product a few days before the use by date, and then if the product is still not sold on the final day before the use by date, they will mark-down the product to the maximum it can go several hours before the store closes.
It then marks the price down to £2.75, and along comes the customer to put the product in his basket, bagging a £3.25 (54%) saving.
Immediately we know the supermarket has incurred a loss of £3.60 (original cost) less £2.75 selling price, or £0.85. But how do we account for this loss?
The transaction journals are:
Dr Cash 2.75 (receipt of customers cash)
Cr Sales Revenue 2.75 (recording the sale)
Dr Cost of Goods Sold – £3.60 (recording the cost of sales)
Cr Inventory – £3.60 (reducing the inventory)
Dr Loss on inventory markdown – £0.85
Cr Cost of Sales – £0.85
How does the supermarket report these markdowns?
Supermarkets generally record these sales within cost of good sold which affects gross profit, however they don’t generally disclose markdowns separately in the financial statements. We know that British supermarkets make 5-8% gross profit margins, and if the profit margin deteriorated significantly each year from its model gross profit margin, then we would want to know what is driving this change in gross profit.
However, the internal planning and forecasting department should be all over these markdown numbers and should be monitoring the markdown performance of each store closely, flagging stores which go beyond an acceptable RAG threshold.
