CMROI and GMROI: Critical Metrics for Retail Cash
Yes… you need BOTH!
GMROI is a well-known financial ratio for independent retailers that measures how inventory is turned into profit. GMROI is calculated by dividing gross margin by average inventory at cost. For example, let’s say your gross margin over the last 12 months is $500,000 and your average inventory at cost is $225,000.
500,000/225,000 = 2.2
Another way of looking at this is to say for every dollar you invested in inventory over the last 12 months, you earned $2.20 in gross profit. From the $2.20, one dollar covers inventory and the balance, $1.20, covers expenses and profit. If your expenses are 40 cents on every dollar, then the balance left for profit is 80 cents. The higher the GMROI the more profit you have available to reinvest into inventory and generate profit.
It’s important to note that GMROI does not necessarily reflect cash. Unsold inventory shows as profit and unrecorded markdowns can reflect an inflated margin and a higher GMROI. This is why I came up with a more accurate metric called CMROI or Cash Margin Return on investment. CMROI is your actual cash margin dollars divided into your average inventory at cost. This ratio is based on revenue generated in cash profit as impacted by your inventory turnover (or turn). The faster the turn, the lower the average inventory value.
If your GMROI is 3.2 and your CMROI is 2.5, then it will demonstrate you have a fair amount of unsold inventory and your money is tied up in underlying inventory.
Let’s say your CMROI is 3.5 and your GMROI is 2.2. That might indicate a faster turn but it was achieved through markdowns. The 2.2 reflects lower profit dollars and that is the drag on the ratio comparing 2.2 to 3.5. The higher CMROI is most likely attributed to selling off inventory from a prior period.
The goal is to get these two ratios to be close in value. That would indicate that your paper and cash profit are aligned.
The closer these two ratios become is a reflection of not carrying over inflated margins. See the examples below. These are actual results from a Management One gift store.
Let’s review the 3 categories:
Barware
The CMROI and GMROI are identical. Yeah! This is an ideal ratio!
Children
The gross margin is higher than the cash margin and you can see it in the dollars generated in cash vs. profit. The efficiency is also low which is another indicator of underlying inventory.
Body Care
The cash margin is slightly higher than the gross margin. Both the CMROI and the GMROI are close and the efficiency is excellent. Upon a deeper dive, you might discover that new goods turned well and some underlying inventory also drove the cash margin higher, but at some discount as the GMROI is slightly lower than the CMROI. Given the excellent efficiency, cash is being generated quickly to reinvest in inventory which is creating extra cash profit.
These results are available in your Management One Inventory Performance Reports (in Retail ORBIT® under “analytics”). Knowing these numbers allows buyers an opportunity to look at strategies and tactics to improve cash flow.
For more information and guidance contact your Management One Retail Expert, or the Management One Customer Success team. We are always happy to discuss your results and share solutions for you and your indie retail business.
Onwards, and Upwards,
Marc Weiss - Co-founder, Management One