One of the first questions we ask distribution executives is “What would you change about your pricing system?” Often the first reaction is nonverbal… a roll of the eyes or a shake of the head. Sometimes it’s a sigh or even a laugh. After that, most distribution leaders have a lot to say…there’s a lot they’d like to change. We’ve distilled these responses into the top five most common issues distribution executives face when it comes to their pricing systems.
“Sales People Leave Money on the Table”
Executives realize that they aren’t making enough on incidental sales. While an individual customer spends only spends $250 per incidental item on average annually, when combined, these incidental purchases make up about 30% of overall sales dollars for the distributor. Sales people, however, leave money on the table when they underprice these less price sensitive incidental items. In fact, most distributors only make 5 more points on incidentals than their average margin. Compare this to top performing companies that enjoy 12-15 point margin difference between incidental and price-sensitive sales.
What to change: Making 5 points more on the 30% of sales that are incidentals significantly impacts the overall bottom line, but customers will only pay an average of $10 more per item, per year. Companies can increase overall margin by 1+ points with little risk by increasing margin on incidentals.
“Our System Price is Lowered at Order Entry”
Distributors devote a lot of resources to set up pricing in the ERP systems, only to see their sales people ignore it. Profit2’s experience shows us that most distributors see the system margin lowered 50% of the time at order entry. This price utilization percentage is a key indicator of the creditability of the pricing system, and most distributors are failing.
What to change: Increasing pricing system utilization is a two-fold challenge.
- Through sales coaching, gain the active support of your sales people so that they have the tools and information to overcome the fear that causes them to reduce system pricing.
- Make sure your pricing is right. It must be competitive where necessary, and opportunistic where you can safely make more. Only then will sales people trust it enough to overcome their fear and use system pricing.
Increasing system price utilization to 90% is not only possible, it’s profitable: Each 10% increase in utilization can increase gross profit by a half point on total sales.
“Our Product Pricing Groups Aren’t Right”
Most companies segment items by type of product and/or supplier. This works well for purchasing but not for pricing. Typically, only 20% of the items in pricing groups account for 80% of sales, but reworking product groups is a big job and takes resources away from other more pressing priorities.
What to change: Companies could make more margin if items were segmented by price sensitivity, instead. By reorganizing items based on key price sensitivity indicators, you can charge more for the less price sensitive items. And unlike a major product group revision, this can be accomplished with a minimum amount of time and distraction.
“We Need to Better Segment Customers for Pricing”
Sales people tend to offer a customers “best price” based on their “potential”. This can be a valid initial assessment, but maintaining customer segmentation can be time consuming and takes a back seat to other work. Those initial assumptions are never revisited. Over time, then, distributors discover that as many as 75% or more of their customers are all getting “best price”.
What to change: By differentiating pricing based on a customer’s overall purchases and cost to serve, instead of “potential”, most distributors can substantially increase margin.
“Pricing Maintenance is a Nightmare”
The reason distributors struggle with maintaining their pricing systems is understandable:
- The scale of distributor pricing is simply huge – hundreds of thousands of potential pricing decisions.
- Rebates management can be very time consuming
- Vendor cost increases must be implemented quickly or profit is lost
This challenge results in sales people take pricing shortcuts to reduce pricing maintenance, which in turn reduces margin. And even then, companies are spending too much time (and profit) on maintenance of pricing records, 60% of which are unnecessary or counter productive.
What to change: A simplified pricing system is both easier to maintain, and more likely to be utilized.
Summary
These five chronic pricing issues rob most distributors of 1 to 2 points of margin. The margin experts at Profit2 have developed a set of specialized analytical tools and methodologies that enable distributors to quickly simplify their pricing system so that it’s easier to maintain and more likely to be utilized.
Request a full executive briefing and demonstration of the Profit2 margin optimization tools. Obtain information on how to address these challenges step-by-step. Get specific data on how your company can increase margin and create a sustainable margin annuity by focusing on these five common margin leaks.
