October 05, 2011

Death Spiral: Items per Order and Price per Item

I've analyzed about 300 company-years of data in the past four-plus years.  One thing that is consistent is the relationship between items per order and price per item.

When a business is failing, or is about to fail, you'll observe customers who do the following:
  1. They buy fewer items per order at a more expensive price per item purchased.
  2. They buy more items per order at a lower price per item purchased.
  3. They buy fewer items per order at a lower price per item purchased.
  4. Even with promotions (25% off, free shipping), they buy fewer items per order at a lower price per item purchased.
Healthy businesses yield a combination of items per order and price per item purchased that yields an increase in average order value that is greater than the rate of inflation.  When the rate is lower than the rate of inflation, you either require a significant increase in customers to cover the difference, or a significant decrease in expense to cover the profit and loss statement.

Take a look at this example:

Items Price Average

Per Per Order

Order Item Value
October 1, 2011 2.62 $42.30 $110.83
July 1, 2011 2.55 $43.49 $110.90
April 1, 2011 2.51 $43.88 $110.14
January 1, 2011 2.42 $45.77 $110.76
October 1, 2010 2.34 $47.50 $111.15

This example is symbolic of a business mired in a death spiral ... average order value, something that most folks carefully analyze, is reasonably static.  However, it is static because items per order are on the increase, while price per item is on the decrease.  In other words, customers are making clear budgetary decisions, buying ever-cheaper items.  This is not sustainable, folks.  This puts tremendous pressure on the profit and loss statement ... pressure on gross margins that require more customers purchasing to cover the loss in gross margin.

So pay close attention to each metric, because the combination of each metric clearly communicate current/future business weakness.

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