Sourcing Products from Liquidation Companies: The Essential Guide

This post is by Albert Palacci, CEO of Palacci Group.

When people start out selling online, their biggest challenge is often which products to buy and where to buy them from.

There are a number of easily accessible products sources that many online sellers start with: flea markets, arbitrage, used books and so on. Liquidation or clearance stock is only a little harder to access – you just need a resale certificate – and there’s a lot of potential for profit.

But people need to do their research before they jump into the world of liquidation. A lot of sellers start completely blind and with very high expectations. They’ve seen prices up to 95% off retail, so think that they’re going to invest a thousand dollars and make a million. That’s just not the case.

So here’s everything you need to know before you start sourcing clearance products. I’ll explain how the liquidation business works, including all the industry jargon. Then I’ll cover the pitfalls you need to be aware of and give you my best tips on how to profit from liquidation stock.

Where does liquidation stock come from?

Retailers and internet sellers across the industry liquidate stock for a number of reasons. There are customer returns, “shelf pulls” and “warehouse pulls” of products that for different reasons come back into their warehouse. It’s essentially a “reverse logistics” issue – passing products back up the supply chain to warehouses and distribution centers, instead of down the supply chain into stores.

When these products come back, they need to be accounted for then they need to be resold or liquidated. Retailers like Walmart, for example, have a tremendous amount of reverse logistics products that come into the Walmart returns center. These products need to be moved on. Walmart and other large retailers have a system of selling them by the truckload. They call it a “load” in the industry, which is typically 24 pallets.

The peak season for liquidation stock usually comes in the first quarter of the year – January through March. A lot of Christmas returns are coming back then, such as unwanted gifts and buyer remorse returns. The more liberal return policies that the large retailers have, the more returns that come back, and the more products that float into secondary markets – the various outlets where clearance stock is sold.

Large liquidation companies

The big liquidation companies buy products in bulk – 30 to 40 truckloads – and then resell it to smaller liquidation players. The retailers often agree contracts with the big liquidators. They’ll say, “Hey, you won the contract to buy all our liquidation product for the next year.” The contract will be at a specific rate, such as 10 cents on the dollar, meaning that the liquidator will pay 10% of the value for everything that comes from that retailer.

Whether they get 100 truckloads, two truckloads or one truckload, they have to take all the product that comes in based on their contract. The contracts switch every year, with different players winning different contracts. That’s the way the larger liquidators buy the product. Other than information from previous purchases, a lot of the buying is completely blind.

Every retailer works the liquidation business differently. Taking Walmart as an example again, they sell “unmanifested” loads at a cost anywhere between $5,000 to $10,000. A manifest is a document that tells you in detail every single unit that’s on a pallet or in a truckload, so with an unmanifested load you just do not know what you’re getting. For a consumer or somebody that’s just trying to break into the liquidation business this is not a smart way to buy liquidation products – you need to have a lot more detail.

Experienced liquidation buyers

Some retailers and online sellers will buy whole truckloads of clearance stock, either direct from retailers or from large liquidation companies. In this case, the buyer will come in and agree to take a load with a brief description, then go and pick up the trailer full of product – 24 pallets.

Some of these buyers have retail stores, some are online sellers that sell it on eBay or other platforms, some sell on flea markets or garage sales. There are a lot of different venues to sell these types of product. They’ll document all the units they have, then go and sell it for a profit.

Depending on the load that they get, there can be a lot of profit to be made. It all depends on the products in the load, and the best channel to sell that load through. Every retailer out there – from Macy’s to Staples to Amazon – has products that they need to dispose of, so there’s a huge variety and volume of liquidation stock.

Smaller sellers can get overwhelmed by the sheer volume if they buy an entire truckload. It’s also a large investment of capital, and a considerable risk. Successful buyers at this scale have normally gained a lot of experience by buying smaller lots over a number of years.

Smaller liquidation buyers

Some of the larger liquidation companies will break down the stock they receive, grade it, categorize it, group it into lots, and create a detailed manifest so they can sell it on to smaller retailers, online sellers and other businesses.

There’s a lot of labor involved in that process, and these businesses need to add their own markup, so the price of liquidation stock bought this way is higher. However, the lot sizes are much smaller and there is a detailed manifest listing the exact products included in the lot, along with their condition or grade. There is much lower capital investment and risk involved in buying this way.

What’s a shelf pull?

Shelf pulls are a major reason for goods going to liquidation. A shelf pull is a product that was on the shelf in a retail store, but was never sold to a customer. They are typically brand new products that might show minor wear and tear – they’ve often been on the shelf for a while, and might have been moved around several times.

Why didn’t the product sell? It might have been in the wrong section of the store, or they couldn’t identify what it was, or it could be a seasonal product such as Christmas lights. They’ll pull those off the shelf, return them to the warehouse, and liquidate the stock. It can be a real profit center if someone is willing to buy all the Christmas lights and then wait until October or November of the following year to sell them.

What about bankrupt stock?

When people think of liquidation they often think of bankruptcies. There are some very big players in bankruptcy auctions, yet most of the goods from failed businesses don’t end up in the liquidation market. The biggest player in the US is a company by the name of Gordon Brothers. They go to the courts and acquire the stock of bankrupt companies. When Circuit City filed for Chapter 11 bankruptcy, for example, their inventory would have gone to a company like Gordon Brothers.

The typical methodology for bankrupt stock is to liquidate it at the store level, rather than through the wholesale liquidation business. They tend to get a higher rate of return selling it in the retail store, as a “going out of business” sale. Some odds and ends might hit the liquidation channel, but it’s not usually the most desirable products.

Is this too good to be true?

So you’re buying goods at a very low price and selling it on at market value. It’s got to be too good to be true, right?

First of all, it’s a lot of work and definitely not easy money. You have to buy the products, receive the products, process the products.

The starting point for price in the industry is MSRP – the Manufacturer’s Suggested Retail Price. Typically, those prices are very high. When people tell you 80% off, 90% off, 95% off MSRP, it’s an industry standard that everybody uses but it’s not the true value of the product. The true value of the product is the lowest price that a consumer can find it for sale, not the suggested retail price. Sellers get their hopes up because they base their calculations on MSRP, and think 75% off means they’re going to quadruple their money.

The reality is quite different. There’s a lot of work in processing, there are a lot of fees if you’re going to sell it online, and there’s a lot of overhead to sell it in a retail store. There are profits to be made from selling liquidation stock, but it’s most definitely not a get-rich-quick scheme.

I believe that the right amount of profit to make on liquidated product is 30% to 60%. A lot of buyers in the marketplace don’t want to touch the product unless they can make a 100% to 300% profit on it. That’s very hard to do when you factor in all of the various expenses involved.

Why are retailers so desperate to clear these products out?

Big retailers normally only sell new products in their retail stores. Processing returns and shelf pulls is a difficult and time-consuming process. They just want to write off the problem, take the loss, and let a liquidator handle all the logistics.

That way they get it out of their warehouses to make space for more profitable new products. They don’t have to pay the cost of labor to sort through all the returns, grade them, and re-categorize them. Even if they did go to all that trouble, only a small fraction of the stock would be in good enough condition to be sent back to stores and sold as new.

How to be a smart liquidation buyer

#1. Get a resale certificate

A resale certificate is something that you need in order to purchase from many liquidation companies. My company, for example, will not do business with you unless you have one. Some liquidation companies will allow you to purchase without a resale certificate, but generally you do need to have one.

A resale certificate registers with your state that you are a business, and do not need to pay sales tax on the products that you buy. Most larger liquidation companies only want to deal with people with resale certificates, because it says, “Hey, I’m serious about my business, I want to build my business. I am registered with the state and I intend to buy product at a wholesale level.”

It takes a few days to register, and every state has its own process. We have a lot of information about how to get a resale certificate, and separate links for each state on our blog.

Some people don’t want to register for a resale certificate because they don’t want to pay their taxes. But if you’re serious about building your business, there’s no way around that one. If you don’t register and become successful, you’ll have to deal with the taxman later on. I’ve seen a lot of horror stories, and it’s not a very wise path to take.

#2. Analyze the manifest

If you are a newcomer to the liquidation business, I recommend that you only buy manifested product.

Manifests really reduce the amount of risk that you have in purchasing liquidation, because you’re able to see exactly what’s there. The manifest is extremely important because it allows you to analyze the contents of the lot that you are thinking about buying.

Every manifest has a different structure of how it’s laid out, and they can be a little difficult to read, but it is very important that you are able to analyze the pricing in some way. Without the manifest you’re just gambling – you won’t have a clue of what you’re getting. Maybe the title will say “cosmetics”, but the contents could be almost anything within that very broad category.

Even if you purchase a manifested lot, you will still have to take a detailed inventory yourself before you sell it – go through and scan every single barcode to find out exactly what the contents are. Only then will you know how good the supplier’s manifest really was.

#3. Understand manifest variance

Secondary markets – the channels through which clearance stock and other unwanted goods are bought and sold – are growing at an estimated 35% per year to over $400 billion annually in the United States.

So the market is absolutely huge. Retailers are getting massive quantities of product filling their returns centers and they need to clear it out fast. Half the time they don’t even know what they have, and they liquidate it by the truckload to move it quickly. That’s why they often only sell unmanifested truckloads.

As the stock moves down the chain, some liquidators take the time to manifest it – to list out exactly what’s in the load. You pay a higher price for manifested loads, because it requires a lot of labor. But even then, they all state that there’s a variance.

Some companies state that their manifest variance is plus or minus 5%, for example. So even though it’s manifested there’s a margin of error built in, typically between 2% and 10%. We have a variance in our own business of 3%, and only very rarely will you find manifests that are 100% accurate.

So always read the fine print before purchasing any liquidation product. If the liquidator claims 97% manifest accuracy and you found it was only 90% accurate, you should be entitled to 7% of your money back.

#4. Know all your costs

A lot of our customers miss various costs. They might miscalculate marketplace fees, or shipping costs, or the cost of processing the inventory. Another one that happens all the time is that people don’t factor in the “cost of money”.

They’ll invest a lot of their money into a truckload of product, but then it takes them six months to process and sell it. That’s a very long time to move a trailer-load of product. In that time, they might lose out on other opportunities, because their funds are tied up in this one truckload. The time-value of money is probably one of the biggest factors that even experienced sellers neglect.

There are a number of auction-driven platforms for liquidated stock, and these charge a “buyer’s premium”. It’s usually a percentage of the value, between 3% and 5%. A lot of people get very excited in the auction atmosphere – the winning concept becomes a very big deal for them. They get outbid by $10, then want to get the high bid back, and gradually the price goes up.

After they finally win the auction, they have to pay the buyer’s premium on top of their winning bid, plus logistics costs. All that can easily get forgotten in the excitement of the auction. I recommend that auction buyers decide their highest bid, allowing for all costs and fees, in advance of the auction – and do not go any higher, no matter what.

#5. Consider quality and grading

In most cases you cannot rely solely on the manifest to determine the quality of the contents. Just because a product is on the manifest doesn’t mean that the box is going to be in a good condition, or the product inside is going to be brand new. Even with the manifest, it’s very hard to tell the condition of the product that you have.

Many liquidation businesses don’t guarantee quality and will just give you a generalization of the products’ condition. When they do grade products, there’s a whole range of classifications that you will see, such as:

• Visible box damage.
• New, never opened
• Open and resealed.
• Scratch and dent.

Liquidation products might be classified in other ways, such as ecommerce returns and retail returns. There’s a lot of different segments, terminology and acronyms that you could see and should understand before buying.

Even when liquidators do provide a grade, the accuracy of the grading will vary very widely. If you haven’t used a company before, I recommend that you buy the smallest amount possible to test them out. If you can, inspect the goods in person. Some liquidators have live auctions, so you can look at the pallets yourself and bid on a specific one that you like.

#6. Plan the logistics

You have to make sure that you factor in the shipping costs when you purchase a pallet. Shipping costs per pallet run anywhere between $100 and $300 based on the weight, size and the location within the country. It’s not like shipping a parcel.

If you cannot get a good rate, a lot of liquidation companies can help you move the product. They all have good relationships with trucking companies. Find out their rates beforehand and factor it into the cost of the product.

#7. Specialize

If you specialize in a specific category, the likelihood of getting a higher return on investment will be a lot better.

Every liquidation company has contracts with different retailers. For example, one might have a contract with a major pharmacy like Rite Aid or CVS, so they’ll get loads of products that you see within those stores. Or they might get Best Buy liquidations, so you’ll see a lot of electronics.

By building up your knowledge in a specific category, you’ll be able to make good decisions more quickly, build relationships with liquidation companies, and improve your strategy on the marketplaces.

#8. Watch out for expiration dates

Clearance products can be in the supply chain for a long time – in warehouses, retail stores, returns centers, liquidators and so on. The likelihood that they are close or even past their expiration date is much higher than a regular store-bought product.

You might be surprised by the variety of products that have expiration dates. Food expiration dates are easy to spot, but products like ink toner, baby wipes, diapers and make-up also have expiration dates.

If you carry the inventory for too long, time can run out on you and then you’re looking at a total loss. If you’re selling online, they’ll be a lot of customer complaints if you sell a product past its expiration date.

#9. Build up slowly

Make sure you don’t spend your full working capital that you have on hand.

Let’s say you have $10,000 in working capital. You should probably invest no more than $500 in your first liquidation lot, and look at it as an educated gamble – a calculated risk. Do your best to account for all of the costs involved, purchase $500 of liquidation product, receive it, work it, organize it, and see if you can make a profit.

If you can, go back to the same liquidator and buy a little bit more. Build it up in a nice slow style, where your risks are all calculated. Don’t jump in quickly and invest all of your working capital into liquidation stock, because you might get very disappointed and lose all of your funds.

I also recommend diversifying your sources. So you might buy 30% of your inventory via liquidation, and work on finding the best sources, products and channels to sell that stock. While you build that piece, look into other segments like online arbitrage, retail arbitrage and standard wholesale. If you combine all those different segments then you’ll have a very diversified purchasing platform.

Trends in the liquidation business

The world of liquidation is changing very rapidly. One thing we’re seeing is retailers jumping from liquidator to liquidator to try to get a higher recovery rate. As the big retailers squeeze liquidation companies to get a better return, those companies will also try to get a better price – from the small retailers and online sellers who buy from them.

Ecommerce is still a young industry, and online sales are growing in more and more product categories. Ten years ago far fewer people were purchasing clothing online than there are today. You can’t try a shirt on before buying, so what happens if it doesn’t fit? You return it. Things like that are going to change the nature of the liquidation business over the coming years. The amount of product coming through is going to grow, and the quality of the product is going to change.

We’re in a big experimental phase right now. Best Buy opened up a website called CowBoom to sell a lot of their clearance stock directly to consumers, although they have now backtracked and closed the site down. Other retailers and e-tailers are also starting to resell returned products themselves. Some are trying to liquidate returns via auction sites. The model is going to change constantly until they figure out the sweet spot.

I don’t believe that there’s one solution for all of these liquidation issues. It’s a multi-part problem that retailers have to look into, and try to maximize their recovery rate in every segment possible. That might be through retail, liquidation companies, auction sites, warehouse auctions, outlet stores or other channels. There will be a lot of trial and error until they really figure it out. Even when they do, the game will change again as consumers’ purchasing habits evolve. It’s a moving target.

In closing

To participate in the liquidation business successfully, you need to get the processing part down to a science. You need to be able to purchase properly, receive the product, process the product and sell it to the customer accurately. If you do a good job, you’ll get a good reputation and more sales.

Get the channel and the process correct, and there is a huge amount of money to be made. Get it wrong, and it could ruin you. Customers want better and better deals, and the liquidation business provides one way to give that to them. Learn the ropes, gain experience, and use it to your advantage.

This post was by Albert Palacci, CEO of Palacci Group. Albert has been in the wholesale and distribution business since 1999, with businesses including liquidation wholesalers 888 Lots and Miami Lots.