Definition and explanation
In addition to selling goods themselves, business entities sometimes find it more convenient and more profitable to market their products in multiple areas through agents. Consignment is a similar type of business model in which goods are sold in different areas of the same or other countries through one or more agents who have a better knowledge of their respective local markets.
In consignment, the goods are dispatched to an agent who markets and sells them in his periphery on behalf of the sender. The individual or business entity that dispatches goods is known as consignor and the agent to whom goods are dispatched for sale is known as consignee. The flow of goods in a consignment can be viewed as follows:
In this type of business arrangement, the consignee is not entitled to the profit generated by the consignment business but usually receives commission from consignor as his remuneration. This commission is computed at a stipulated rate on the total amount of goods sold by him. In addition to his sales commission, the consignee is also entitled to recover marketing, transportation and other expenses paid by him in respect of consignment business.
After all the goods have been sold, or at appropriate intervals as per agreement, consignee remits the sales revenue collected by him to the consignor after deducting his agreed commission plus any expenses incurred by him.
For each accounting period, consignor calculates his consignment profit by making an account known as consignment account.
In order to expand his business and maximize profit, a consignor may have many consignees working for him in many different areas at the same time. Likewise, a consignee may be selling multiple types of goods on behalf of many different consignors to maximize his commission income.
The relationship between consignor and consignee
The relationship between consignor and consignee is that of principal and agent which usually comes into existence through a contractual agreement. It means the title to the goods that are sent to consignee remains with the consignor even if the goods are present on the shelves of the consignee’s shop. Any loss of goods occurred due to theft, fire or accident etc. will be born by the consignor and not by the consignee. However, if consignee agrees to bear a certain percentage of loss in the consignment agreement, the loss will be born in accordance with the agreement.
In case no information regarding loss exists in the agreement and the consignee takes normal care while transporting, handling and displaying the goods at the point of sale, he can’t be held liable for the loss.
If a consignee fails to perform his part of work or does not function as expected, the consignor may replace him by another consignee. Similarly, if the consignee realizes that a particular consignment is no longer convenient to him or is not remunerative enough, he may not be interested to renew the contract and may decide to give up that consignment.
Applicability/suitability of consignment
The consignment is best suited in situations where a business:
- wants to offer its commodities in another area but is unable or does not want to open a separate branch or outlet in that area.
- wants to expand its activities in some other areas but does not want to hire new employees for this purpose.
- finds a business opportunity in another area and already has a sound networking with other business units or set ups in that area.
- has temporary demand for its products in an area which might not recur in future.
Advantages of consignment sale
Selling goods through consignment offers many advantages for both consignor and consignee. Some are listed below:
Advantages for consignor
- Consignment is well suited to manufacturers and wholesalers because it eliminates the need of investing heavy capital to open new branches for the purpose of marketing goods in various remote areas.
- Consignment offers the benefit of pushing goods into a relatively active buying market rather than storing them in a warehouse and waiting for the customers’ orders.
- A business does not need to recruit additional staff on its payroll and pay huge salary packages for raising its sales volume.
- The consignee not only sells the products but also carries out the business related promotional activities in his territory.
- A consignee may have a better market awareness and sound customer relations in his area and may be in a better position to promote and sell goods in his local market.
- In certain cases, consignment contracts are more convenient for manufacturers and wholesalers than the formal partnership contracts. Consignment only requires the payment of commission to the consignee whereas formal business partnership requires the division of profit with the partners.
Advantages for consignee
- If the consignee is already in business, selling additional or new varieties of goods by entering into a consignment contract will enable him to learn new marketing methods and dealing tactics.
- In consignment, the goods are sent by consignors which enables consignees to fill their shelves and earn commission on sales without tying up their capital in inventory.
- Selling additional goods will increase the number of customers which will ultimately improve the consignee’s own customer base.
Disadvantages of consignment
A number of disadvantages are involved in selling goods through consignees which are given below:
- The consignor is unable to exercise any control over the physical damage of goods and shopper abuse as the goods are not in his physical control.
- If the consigned inventory does not sell well or the commission on its sale is not as attractive, the consignee may prefer to display his own inventory on most prominent and advantageous places.
- While consigned goods get additional exposure on the shelves of the consignee’s shop, consignor gets no cash until the goods are actually sold to customers and the payment is remitted to him by the consignee.
- The consignor is unable to exercise full control over the expenses incurred consignee’s end.
- Return on investment always matters in any business format. As the consignee has no investment in the consigned inventory, he may prefer to present and promote his own inventory where personal selling makes sense.