Distributor profit tools --
Do a customer profitability analysis

BY JASON BADER
Inventory management specialist

In the first part of this article last month in The Wholesaler, I covered the mechanics of creating a customer profitability ranking. I spent most of the article looking at strategies to deal with the lowest contributors on your list. Most of the suggestions dealt with taking away services and raising prices. In this part, I will talk about working with the other two customer groups. The name of the game is to recapture net profit by making better decisions.

The middle group -- let’s call them B customers -- is a different animal. They do have a negative contribution to net profit, but I wouldn’t want to lose them. As mentioned earlier, they provide us the volume to purchase more efficiently and allow us to enjoy certain economies of scale. Some slight adjustments to how we handle this customer group will allow many of them to rise up to positive contribution.

Most of these customers have a decent gross profit volume. The real trouble occurs in the frequency of orders. We may find ourselves processing several low-dollar orders in a single day. If we could get these customers to consolidate orders to once a day, they would slide up the profitability scale. This type of discussion will need to come from someone senior in the organization. They can speak in terms of reduction in the clerical costs of PO generation and payment processing.

Another strategy is to look at how we handle special orders and transfers for this customer group. I would ask this customer to bear the cost of expedited handling. In addition, I would be more apt to suggest that the customer accept a substitute rather than ordering in a special item. While we are talking about specials, make sure that we are getting a high margin on the product. We are spending company resources to bring this in.  Be strict with your return policies and be mindful of internal costs.

Finally, I would look at modest price increases. This is where a good pricing matrix guru can come in handy. Look for subtle increases to less popular items. You should be able to raise your overall margin by 1% to 2%.

Now we arrive at our best customers. To stay consistent, and a bit boring, let’s call them A customers. These are the folks that make a positive contribution to our net profit. We love them. We need to tell them we love them. I’m serious here. If we lose one of these customers, it will often be the next most expensive sale we will ever make. We will throw all kinds of deals at them in order to woo them back. Unfortunately, the cash impact of these deals will be felt for many years to come.

Let’s figure out a way to not lose them in the first place. My brother and I discuss this all the time. Get close to the A customers. My brother is the heir-apparent to my family business because yours truly has chosen to write articles and speak at trade shows. Note to self -- ask mother if I was fond of paint chips as a child.

The point is that I want the owners of companies to become close to this A group of customers. Do not leave the relationship to your sales manager or salesperson. At least once a year, meet with the owner of each of these companies. Talk about what you are doing for them. They need to be reminded. Incidentally, this is an excellent utilization of sports tickets or that golf club membership. People still do business with people they know, like and trust.

Is it easier to go get new customers or to sell deeper into your existing customer base? Nothing fancy here. We already have them on the books; let’s sell them more product categories. It is always a blow to the ego when a long-standing customer says, “I didn’t know you carried that.” Most sales managers I know would love to be able to analyze each customer and figure out where we are not selling them. The problem is that the task is just too daunting. There are just too many customers to really look at. Why not use the ranking report to help us?

Why would we want to sell more into companies that produce a negative contribution to net profit? Doesn’t make a whole lot of sense to me. Let’s focus on selling deeper into group A. I was presenting this in a private seminar recently. Fortunately, the sales manager was in the room and a grin spread across his face. At the break, he shared with me that he had been told to create a sales opportunity analysis for all the customers in the company. He was really sweating this assignment. I just cut his workload dramatically. It’s better to work smarter than harder.

The customer profitability analysis is one of the most powerful tools in any distributor’s arsenal. From an inventory management perspective, you will find several wins. A big part of inventory management is the allocation of resources. We have a finite amount of cash to invest in inventory. As good asset managers, we are charged with investing our resources where we will receive maximum customer benefit and a strong financial return. When we use this customer ranking, it is easy to see where we want to invest our money. We need to make sure that our A customers are satisfied. One of the scarier outcomes of this analysis is realizing how many inventory dollars we are wasting on group C. Sometimes we carry entire lines of product for C customers. If I aim really hard, I can probably just shoot off my middle toe.

After all is said and done, the biggest win comes from educating the front line decision-makers. At a customer service level, they have ability to make a tremendous impact on our bottom line.

One of the final challenges is to make sure that everyone knows who the A, B and C customers are. This is where our software can help us. Some of the more sophisticated pieces can actually have the customer code appear in a different color during the order entry process. Some user-defined fields in the customer record can help; but they are not always seen.

I ran across one distributor who came up with a simple code. He just added asterisks to the end of the customer name in the database. This worked well because the codes also appeared on the pick tickets. Because he chose to include the material handling team in the process, they understood the significance of the star codes. Customers with three stars were given special treatment. The key is to find a communication vehicle that works for you.

Understanding customer profitability will go a long way toward improving your bottom line. As you can see, this simple data extraction will provide several avenues to look for cash. Don’t be afraid to lose some of your C customers. You have already given them enough of your money. I will explore additional power reports in the coming months. As always, I am here to help you get started. Good luck.

Jason Bader is the newest member of The Distribution Team, Inc. The Distribution Team specializes in providing inventory management training, business operations consulting and technology utilization to the wholesale distribution industry. Bader brings over 20 years of experience working in the distribution field. He can be reached directly at 503/282-2333, e-mail jasonbader7801@yahoo.com, or at website www.thedistributionteam.com.