Indie Retailer Response to Unsettling Times: Balance Sheet and Cash Flow Implications from Tariffs

May 12

William Lieberman from The CEO’s Right Hand, an expert in retail financial and accounting strategies, offers his insights on tariff management.

Financial & Accounting Strategies for Tariff Management

Tariffs necessitate careful financial and accounting adjustments for retailers, impacting balance sheets and cash flow.

Balance Sheet & Cash Flow Implications

Upfront Payments & Working Capital: Unlike typical inventory purchases, tariffs demand immediate payment before customs clearance, creating significant working capital pressure and potentially extending the cash conversion cycle. Higher inventory values due to tariffs tie up more cash.
Cash Flow Forecasting: Accurate cash flow projections, incorporating tariff payment schedules aligned with import timelines, are crucial to anticipate and manage potential cash shortfalls.

Inventory Valuation

Method Impact: The chosen inventory valuation method (FIFO, LIFO, or weighted average) significantly affects Cost of Goods Sold (COGS) and ending inventory values when tariff rates fluctuate. Retailers should review their current method to ensure it accurately reflects their financial situation under tariffs and understand the implications of potential changes.

Tax Planning Strategies

COGS and Taxable Income: While tariffs aren't directly deductible, their inclusion in COGS significantly reduces taxable income.
Shipment Timing: Strategically timing imports around fiscal year-end can help manage taxable income across different periods.
International Operations: Retailers with international operations should explore potential foreign tax credits to offset tariff burdens.
Pass-Through Entities: Increased COGS from tariffs can lower Qualified Business Income, impacting the Section 199A deduction for pass-through entities.

Financial Reporting & Disclosure

Transparency: Clear financial reporting is vital when tariffs materially affect profitability.
Segmented Reporting: Consider tracking tariff impacts separately to provide stakeholders with a clear understanding of their influence on financial performance.
Footnote Disclosures & MD&A: Significant tariff impacts may require specific footnote disclosures and analysis in the Management Discussion & Analysis sections of financial statements to explain unusual fluctuations.

Advanced Accounting Considerations

Matching Principle: Accrual accounting requires recognizing tariffs as part of inventory cost upon receipt, not payment, necessitating careful tracking, especially with changing tariff rates or goods in transit across reporting periods.
Lower-of-Cost-or-Market: Increased inventory costs due to tariffs necessitate more frequent assessments for potential write-downs when market prices don't support higher costs.
Internal Controls: Implementing robust internal controls for tariff calculation, payment, and verification is essential for accurate financial reporting and compliance.

Financial Ratio Analysis

Gross Profit Margin: Tariffs directly affect gross profit margins, potentially obscuring underlying operational performance. Tracking pre-tariff and post-tariff margins separately provides valuable insights.
Inventory Turnover & Return on Assets: Increased inventory values from tariffs can decrease inventory turnover and return on assets. Contextualizing these changes for stakeholders is crucial to avoid misinterpretations of operational effectiveness.

Financing Options for Tariff Management

Trade Finance: Specialized trade finance products designed to fund tariff payments are becoming increasingly popular.
Inventory-Backed Financing: Higher inventory values resulting from tariffs may increase borrowing capacity under inventory-backed financing.
Supplier Negotiations: Negotiating with suppliers to absorb some tariff costs or extend payment terms can ease cash flow pressures.

System & Process Updates

Chart of Accounts: Consider modifying the chart of accounts to track tariff expenses separately for improved analysis and decision-making.
Accounting Software: Ensure accounting software can accurately track and allocate tariffs to specific inventory items.
Documentation: Maintain meticulous records of tariff payments for tax compliance and audit purposes.

For questions and information on these strategies Contact information: William Lieberman at william@theceosrighthand.co or (917) 747-6925

Mr. Lieberman is the founder and CEO of The CEO’s Right Hand, Inc., a New York-based consulting services firm that provides the full breadth of strategic, financial and operational advice to founders, CEOs and Executive Teams. As an experienced entrepreneur himself, he has served in various C-suite leadership and advisory roles across a wide spectrum of industries.

Profit Goal Calculation

Step 1: Define Financial Targets

Net Profit Goal: (Target: 10.00%)
Operating Expense as % of Sales: (Target: 42.00%)
Markdown Goal: (Target: 16.00%)
Total Expenses + Markdown: 68.00%

Step 2: Incorporate Markdown

Base Value: 100.00%
Add Markdown Goal: 16.00%
Total (Base + Markdown): 116.00%

Step 3: Calculate Initial Markup (IMU) Percentage

IMU% Needed to Reach Goal: 58.62% (Calculated as: 68% / 116%)

Here is a link to a spreadsheet so you can enter your individual values.

Using the Needed IMU to calculate your markup

Include tariffs in your initial markup to protect your profit margin. Customer price sensitivity is unknown, and absorbing the tariff prevents you from understanding their willingness to pay. Incorporating the tariff allows customers to signal their price tolerance, while giving you the option to reduce prices later. Additionally, concentrate on improving the value you offer in every customer interaction.

To calculate your markup effectively, use the Initial Markup (IMU). First, determine the landed cost, which encompasses the supplier's price plus all associated expenses such as tariffs, shipping, freight, and duty. If these additional costs are not included by the supplier, research them separately to arrive at the total landed cost. While some retailers account for freight differently, a single landed cost figure is crucial.

Example:

Landed Cost: $75

Initial Markup (IMU): 58.6%

Retail Value: $75 / (1 - 0.586) = $181

To protect your profit margin, factor tariffs into your initial markup. This allows you to gauge customer price sensitivity and provides the option for future price reductions. At the same time, focus on increasing the perceived value of each customer experience.

As a new tariff cycle begins, independent retailers can proactively implement strategies to improve risk management, capitalize on emerging opportunities, and enhance operational and financial readiness.

If you have questions feel free to reach out to me and I will get you in touch with the right professionals.

Onwards and Upwards,

Marc Weiss

Co-founder, Management One.

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