288: This One Thing Is Killing Your Profits With Kevin Stecko

Podcast: Download (Duration: 53:03 — 61.0MB)

A 20% discount does not cost you 20% of your profit. It cuts your contribution margin roughly in half, because none of your fixed costs change when you drop the price. Kevin Stecko raised his t-shirt prices from $20 to over $36, lost 30% to 60% of his orders, and ended up substantially more profitable while working far fewer hours.

Kevin runs 80sTees.com, selling t-shirts from the 80s, and was last on the show in episode 139. His revenue peaked around 2008 in the five to seven million dollar range, then declined for years while his fixed costs stayed put.

This episode covers how he dismantled those costs, what happens when you raise prices dramatically, and the contribution margin math every store owner should run before offering a discount.

Key takeaways

• A 20% discount cuts contribution margin roughly in half, because the discount comes entirely from profit.
• Contribution margin per order is the number that matters, not revenue and not gross margin.
• He raised prices from $20 to $36.25 and contribution margin went from about $10 to $26 per shirt.
• Orders fell 30% to 60% and profit still went up substantially.
• Dropshipping costs 20% to 30% more per unit, and is likely cheaper once handling, shrinkage, and cash tied up are counted.
• He cut a $5,000/month software bill to essentially zero and leased out a 45,000 square foot building.
• Higher prices filtered the customer base to people who complain less and return less.
• Scale is not a weapon against Amazon, so pursuing it for its own sake is a losing strategy.

How fixed costs strangled a profitable business

Revenue peaked around 2008 and held into 2011 in the five to seven million dollar range, then began a gradual decline.

The problem was everything built to support that volume. Kevin had accumulated expenses sized for peak revenue, and profitability disappeared as sales slipped.

The building was the largest commitment. He bought 45,000 square feet while things were trending up, deliberately overbuying so he would never have to move again, and used roughly half of it.

The software was the other. His order management system cost at least $5,000 a month, a price that seemed reasonable when he signed up in an era when launching a website was a significant undertaking.

Neither could be exited quickly. Every order flowed through that software, so replacing it required building full functional parity first.

How Kevin Stecko dismantled his cost structure

The plan started in 2016 and took about three years.

The core move was outsourcing inventory storage, shifting most products to dropshipping from suppliers, with many printed on demand and therefore never stored at all.

That bought time as well as savings. Existing inventory could be sold down slowly without replacement, which was excellent for cash flow and funded the transition.

Today he holds about $50,000 of inventory, only items that cannot be dropshipped, and those sit with a 3PL rather than in his own warehouse.

The building found a tenant, and if that company remains viable it will end up a good investment. The software bill disappeared entirely as of April.

He is candid that the process was painful, particularly letting employees go.

Why dropshipping is cheaper than it looks

Buying one unit at a time through dropshipping or direct-to-garment printing costs roughly 20% to 30% more than buying in bulk, plus a pick and pack fee.

That comparison is misleading because it ignores everything bulk buying costs you.

The real costs include inbound freight, then employees touching the product on receiving, on put-away, on picking, and on packing.

Then there is the money tied up in stock, plus shrinkage from sun damage, items dropped on the floor, or run over by a cart.

Kevin’s conclusion is that his costs are probably lower now, though it is genuinely hard to measure.

The hidden cost of holding inventory in multiple sizes

The decision that used to consume him was restocking a product whose best-selling size had sold out.

Bulk pricing is the only reason holding inventory is cheaper, so you cannot economically reorder one size.

That leaves an unpleasant choice. Abandon the product while the popular size is unavailable, or bring in far more units than you actually want across sizes you already have.

He describes writing a purchase order and then sitting on it for two weeks hoping for better information before submitting it.

Eliminating that class of decision is a benefit that never appears in a cost comparison.

How to price when you fold shipping into the product

Previously, shipping was calculated from cart weight and charged separately.

Now the store offers free shipping over $50, with shipping cost built into each item’s price based on its weight.

The implementation is a tool sitting on top of the product database, applying the adder before the price reaches Shopify.

That change alone forced prices up, before the dropshipping cost increase was even factored in.

What happened when prices rose 80%

Products that sold for $20 now start around $36.25.

Order volume fell substantially. The store used to average well over a hundred orders a day, and a bad day is now 40 orders with a genuinely good day at 70 to 80.

Customers noticed and complained. People ask directly why a shirt they bought for $20 in 2016 now costs $36.

Kevin’s own reaction to explaining the cost breakdown is telling. Walking through the expenses makes him think it is remarkable he ever charged $20, which only worked because such a high share of orders came from organic search.

Why customers pay the higher price anyway

Some products are exclusive, either designed in-house or granted exclusivity by the supplier.

A high percentage of sales are not exclusive, so those shirts are genuinely available cheaper elsewhere.

The defenses are selection and organization. The catalog is larger and better organized than most competitors, so people browse there to find things.

Some of those browsers leave and buy elsewhere. Others value their time more than the price difference and buy where they found it.

What contribution margin actually means

Contribution margin is what remains after an order’s directly attributable costs, available to pay for everything else.

The costs that come out are merchandise cost, fulfillment fees, transaction fees, and any directly attributable labor.

What it funds is employees, rent, your Shopify bill, and profit.

The reason it matters more than gross margin is that fixed expenses apply to every order regardless of what you charged for it.

Kevin’s real example on a $36.35 item: merchandise cost $6.75, pick and pack $2.00, Shopify fee six cents, transaction fee $1.25. Contribution margin is $26.29.

Fulfillment fees vary per order. An order with three shirts sourced from three suppliers incurs three separate pick and pack fees.

He excludes advertising from the calculation, because organic is a large share of sales and attributing ad spend per order is genuinely difficult.

Why a 20% discount cuts your profit in half

Work through round numbers: a $100 average order value at 50% margin, with $5 of fixed cost per order and a 5% variable cost.

Contribution margin without any discount is $40 per order.

Apply a 20% sitewide discount and the order value becomes $80. Contribution margin falls to $20.

The 20% discount produced a 50% cut to the number you actually run the business on.

The reason is that a discount comes strictly from your bottom line. None of your costs change, aside from a small saving on the percentage-based merchant fee.

How to calculate whether a promotion actually made money

The complication is that some customers would have bought at full price regardless, and you discounted them anyway.

Others would have bought next month at full price, and you simply pulled the purchase forward.

Kevin’s estimation method uses daily volume. If you normally do 100 orders a day and a promoted 20% off day produces 150 orders, assume roughly 33% of that day’s customers would not have ordered otherwise.

Run the numbers on that example. Fifty incremental orders at $20 contribution margin is $1,000, and the hundred customers who would have bought anyway each cost you $20, which is $1,000 given away.

The promotion broke even while generating substantially more work.

It can still be worth running if those 50 new customers have real lifetime value. The point is doing the arithmetic rather than assuming a 20% discount costs 20%.

Why higher prices produced better customers

Raising prices left Kevin with essentially only his best customers.

Complaints dropped noticeably, and his read is that people paying full price are simply happier.

His theory is about intent. Someone who sees a product, thinks it is good, and buys it is in a different frame of mind than someone treating the transaction as a game of extracting the maximum discount.

He is also reconsidering returns entirely, since some companies refund without asking for the product back. At a $26 contribution margin, absorbing that is straightforward.

My own store does exactly that on small orders, without publishing the policy, and abuse has not been a problem.

Why chasing scale is often the wrong goal

Kevin’s argument is that scale is not available to you as a weapon.

No amount of growth lets a business like his compete with Amazon on scale. Reaching 50 employees means adding managers and human resources, and Amazon spreads those same costs across vastly more employees.

Below roughly a hundred million in revenue, scale simply is not a tool at your disposal.

The same logic applies to ad spend. Would you rather spend $1,000 a day at a 5x return, or $5,000 a day at 2.4x?

At 75% margin, the first produces $2,750 of gross profit and the second produces $4,000. The extra $4,000 of daily spend and all the operational complexity that comes with it buys roughly $1,300.

Why to segment customers by acquisition channel

The numbers from my own store make the point about customer quality concretely.

Roughly 50% of customers spend less than half our average order value, and about 12% spend double it.

That 12% produces close to 50% of revenue. The cheapest half produces about 10%.

Looking at where each group came from, most of the low-value customers arrived through Facebook, while the event planners and wedding planners who order in bulk arrive through Google.

That finding led me to cut back top-of-funnel Facebook spend.

How this changed Kevin Stecko’s life

He describes himself as semi-retired.

The business went from requiring 10 to 14 hour days simply to keep running, to a state where he does not have to do anything on a given day to keep it operating.

His staff is under ten people including two software developers, plus family members handling Pinterest listings and fraud review, and one employee receiving returns from home.

The developers stay on because he still has designs on intelligent growth, including launching additional sites. Once supplier connections exist, products that do not fit 80sTees can support a separate storefront relatively easily.

The physical difference is real. He used to need a chiropractor and regular massages from being slumped at a desk, and now works in different positions, sometimes answering email outside because nothing is urgent.

The residual difficulty is guilt. He used to feel bad about an hour of goofing off and now spends several hours a day working on himself.

His advice is direct: if you can scale down and have a genuinely good life, consider it.

Frequently asked questions

What is contribution margin in ecommerce?

What remains from an order after merchandise cost, fulfillment fees, transaction fees, and directly attributable labor. It is the money available to pay employees, rent, software, and profit.

How much does a 20% discount actually cost you?

Roughly half your contribution margin. On a $100 order at 50% margin with $5 fixed cost per order, contribution margin drops from $40 to $20, because the discount comes entirely from profit.

Should you raise prices even if you lose orders?

Often yes. Kevin Stecko raised prices roughly 80%, lost 30% to 60% of orders, and increased profit because contribution margin per order went from about $10 to $26.

Is dropshipping more expensive than holding inventory?

Per unit, yes, by roughly 20% to 30% plus pick and pack fees. Once you account for inbound freight, four separate labor touches, cash tied up in stock, and shrinkage, it can be cheaper overall.

How do you know if a promotion made money?

Estimate what share of orders were genuinely incremental using your normal daily volume, then compare the contribution margin from those against the margin given away to customers who would have bought anyway.

Should you include ad spend in contribution margin?

Kevin Stecko does not, because organic is a large share of his sales and attributing spend to individual orders is unreliable. Some operators do include it.

Do higher prices produce better customers?

In Kevin Stecko’s experience, yes. Complaints dropped after raising prices, since the remaining customers buy because they want the product rather than to extract a discount.

Is scaling up always the right goal?

No. Scale cannot beat Amazon at any size a small business can reach, and spending five times more on ads at a lower return can produce only marginally more gross profit for far more work.