How do you manage large customers who routinely place unprofitable orders?

1. Not a problem. We feel that all of our large customers are profitable for us.
2. We assign our largest accounts to a sales manager to avoid paying commissions.
3. We figure out why the customer is unprofitable and take corrective action.

We suggest that our distributor clients let us divide their customers into two groups, larger accounts and smaller accounts. We then subdivide the two size groupings into two subgroups, customers that place profitable orders and customers that place unprofitable orders. Using a size/profit matrix with four boxes, we put each customer into one of the boxes: larger profitable customers, larger unprofitable customers, smaller profitable customers and smaller unprofitable customers. The four boxes are “big winners”, “big losers”, “small winners” and “small losers”.

Dividing customers into size and profit segments is fairly simple. Sadly many large customers aren’t profitable, even though it is a “blinding glimpse of the obvious” that only a very large account can cause a very large operating loss for a distributor. Fixing the big loser problem can be extremely difficult.

The distributor sales organization strongly resists taking corrective actions to turn around large customers. There is always the threat that the customer will take the business elsewhere if the distributor rocks the boat.

This outlines three sequential steps that distributors must take to manage big losers: assess the strategic fit, turn the customer around or track the investment. These three action steps determine how profitable – or unprofitable – some of your largest customers will be.

Assess the strategic fit

After identifying a large account as a money-loser, the first step is understanding how the customer fits into your strategy:

• Is it possible to turn this unprofitable customer into a winner, or at least into a break even situation? If strong efforts to do so in the fast have failed the chances of fixing the problem may be very low.
• Is the customer of critical importance to you, even if it literally costs the company money to do business with the customer? For example, does the customer’s volume enable the company to secure a valuable franchise, or buy at a better cost which benefits the company overall?
• In many cases a large unprofitable customer generates a big chunk of a sales rep’s income, and may also require much of the rep’s time. This situation is an opportunity to free up the rep’s time to build business with other customers and prospects. It is not a strategic reason to hold on to an otherwise losing proposition.

A large money-losing customer with no strategic value or prospect of turning around is a waste of distributor resources. A sales rep making big money from a losing account is not a strategic reason to hold onto the business.

Turn the customer around

A large unprofitable customer presents a challenge to do what great distributors do best:   optimize margin, grow order size and reduce cost to serve. Please note than raising margin is not always the solution to an unprofitable customer problem. Large accounts must be handled with surgical precision:

• Pricing outliers, items sold to a customer at prices below what similar customers pay (below market price) must be corrected ASAP for money-losing accounts.
• Order size is a profound indicator of profitability. The root cause of lack of profit even from larger customers is sometimes order size. The sales rep needs to work with the customer to reduce transaction costs – which benefits both companies.
• Cost to serve large customers can grow out of control due to the distributor’s desire to please the customer. Providing expensive add-ons that the customer does not need drives up operating costs and may make the distributor unprofitable or unable to be competitive. Examples include bloated freight costs, unnecessary technical support, underused electronic commerce features and painful credit card fees.

Properly done, account turnaround tactics for a large money-losing customer are beneficial for the customer. Increasing order size, consolidating vendors, reducing waste and improving product mix is a winning proposition for both parties.

Track the investment

After all else fails, the distributor is sometimes forced to do business with a large customer who “drains profits” from the distributor. In these situations the distributor is making a conscious decision to lose money with a customer to achieve a strategic benefit.

• The losses should be considered to be an investment in achieving the distributor’s strategic goals. As such the losses must to tabulated and reviewed at least twice each year to measure the cost against the desired results (return on investment).
• If the motivation to lose money on a customer is to meet the strategic goals of a key supplier who wants that customer’s volume, the distributor should consider sharing the facts with the supplier and negotiating for relief.
• The distributor needs to scrutinize every cost incurred in doing business with a large money-losing customer. Is a sales rep really needed? What kind of sales rep? How much technical support is required and how should it be provided? How can logistics cost be minimized? How can you improve cash flow and reduce transaction costs?

Tracking the losses from doing business with a large strategic account requires discipline as well as an honest assessment of the costs and opportunities. If the account is assigned to a sales rep, he or she may need to accept a service fee in lieu of commissions for the account. The rep should also carefully control the amount of time invested in the customer.

Doing bad business with a very large customer can cost you plenty of money. Many of the big losers can be turned into profitable accounts. Some of these losses may even be a good investment. You need the wisdom to know the difference, the willingness to do something about it, and the courage to let some of your large money losing customers walk away.

By having the right processes in place in your channel distribution strategy.

It’s one thing to set up a limited time distribution pricing schedule with a partner, but how do you extend it? Monitor results? Set incentives? Without the proper tools, you will be locked into your original agreement without the option to change or prolong it in the future.

Certain software solutions come with the ability to set distribution pricing quantity triggers. These can be based on a variety of metrics, such as weight or volume, which will allow you to set the parameters needed for partners to qualify for your discounted pricing strategy.

It’s a tough economy, and competition is in no short supply. Rewarding customers for high volume purchases will reinforce that they are valued, and treating them as such with discounts or special distribution pricing will ensure that they think twice before shopping around for a new distributor.

A special distribution pricing strategy can actually increase your profitability; by offering up volume discounts you can increase your market share, establish your presence as a leader in a certain distribution channel, reduce costs, and differentiate your business from that of your competitors. Special pricing agreements also allow you to communicate your values and strategies, which can grow your standing in the market and help build your reputation as a reliable and trustworthy distributor.

When setting up a new distribution pricing strategy, communication is key. Work to ensure that existing customers understand this new structure, and how it can benefit them. One of the biggest fears organizations have in implementing new distribution pricing is fear of backlash and business loss. By ensuring that your valued customers are rolled directly into this new system and walking them through the discounts and metrics you need from them in order to keep them there, you will avoid customer loss. Information must be properly presented so that customers aren’t seeing a change of price structure with no added benefits. Economies of scale dictate that with larger quantities come greater savings – having an advanced channel distribution strategy in effect will help you prove this theory in your organization.

Not Realizing the Full Benefits of Automation

Automating warehouse operations and related functions can save your organization considerable time and money. However, if you don’t also improve your current processes and ways of interfacing with RF-based hardware, accounting software, shipping systems, and warehouse equipment, automating your system won’t deliver the full return on investment you could achieve.

Not Quantifying All Benefits

It is difficult to calculate possible future gains such as increased productivity, better warehouse efficiency, improved customer service, and other factors after a new system has been successfully implemented. Remember, these types of benefits can dramatically improve your bottom line and should not be overlooked.

Going It Alone – Without Management Involvement

Top management and other key personnel within the organization must be involved in the selection and the implementation process. For the project to be a success, management needs to stay involved.

Assuming Automatic User Adoption

Many companies assume a well-designed system will operate at peak levels shortly after they make the purchase. The best system will not perform as expected until properly trained personnel have developed complete competency with the system. Allow users to gain confidence through a gradual process of operational ramp-up, including incremental training and system usage. Wait to introduce them to new and more complex system functions until they have mastered the basics.

Whether your goal is to
automate your warehouse operations for the first time or to upgrade to a more
robust warehousing system, steering clear of these four pitfalls will help
ensure that you select the right solution for your organization.

How do you manage those many smaller customers that routinely place profitable orders?

1. We don’t do anything special based on customer size or profitability.
2. We look for ways to protect and build the profitable relationship.
3. We don’t know because we do not track net profit by customer.

We suggest that our distributor clients let us divide their customers into two groups, larger accounts and smaller accounts. We then subdivide the two size groups into two subgroups: profitable customers and unprofitable customers. Using a size/profit matrix with four boxes, we assign each customer to a box: larger profitable customers, larger  unprofitable customers, smaller profitable customers and smaller unprofitable customers. The four boxes[1] are “big winners”, “big losers”,  “small winners” and “small losers”.

The size/profit diagnosis for big accounts is fairly simple. Orders from some large customers aren’t profitable. A distributor can lose a lot of money doing business with a big loser. The necessary therapy is clear: these accounts need to be turned around if possible. On the other hand, doing business with some large customers is very profitable. These big winners are the distributor’s crown jewels: they must be protected and nurtured at all costs.

Smaller customers present somewhat of a dilemma. It’s tempting to do nothing. Individually, unprofitable small accounts don’t “move the needle” very much. But, taken as a group, the losses from dealing with small losers can be a serious problem. The loss situation can be turned around using the right policies and procedures.

Profitable smaller customers are somewhat of a conundrum. This letter will review three critical steps that distributors can take to manage small winners: protect the customer, grow the customer and build customer profitability. These three actions determine how profitable – or unprofitable – your small customers will be.

Protect the profitable small customer

The profitable customers must be protected from competitive inroads.

• Smaller accounts, even profitable ones, are often overlooked by the sales reps assigned to them. Most outside reps earn most of their income from a handful of large customers. Those accounts get nearly all of the love. Your small profitable accounts may get more attention if assigned to a proactive inside sales rep.
• Small profitable “house accounts” who get no attention may feel taken for granted by the distributor. These customers are vulnerable to competitors. Consider assigning them to proactive inside sales reps or to a well-designed direct marketing program supported by customer service staff.
• Service for profitable smaller accounts must be maintained at a high level and pricing on new items needs to be competitive. Customer surveys such as Net Promoter Scores[2]  give useful feedback about what must be done better.

Distributors need to know the operating profit generated by each customer and customer segment. Grouping customers by size and order profitability pinpoints the smaller customers who form a stream of steady profits and growth opportunities.

Grow the profitable small customer

Some of your small customers are very large customers for one or more of your direct competitors. Other small customers are already giving you all of their business. It’s critical to find out how much share of the customer’s “share of wallet” your company enjoys.

• Small winners are already placing profitable orders with your firm. The combination of gross margin percentage, order size and cost to serve is working in your favor. If the relationship is good, the obvious goal is to find out what else this account could be buying from you.
• If the sales rep assigned to a profitable small account is neglecting it you may have two problems: (1) missing out on a profitable business opportunity and (2) the account is vulnerable to the competition.
• If a profitable small customer with growth potential is a house account, reassignment to a proactive inside sales rep may generate more profitable business as well as protect the account. For less promising customers, consider creating an effective direct marketing program supported by a capable customer service team.

Profitable small accounts already know your company and have chosen you as a supplier. Of course it’s much easier to sell to an established customer than to sell to strangers.

Enhance customer profitability

If you can indentify where these nice profits from smaller customers are coming from, a tantalizing opportunity is before you. First, some of these high-profit small accounts could be developed into big accounts. Second, order profitability on these smaller customers can often be further enhanced by thoughtfully reducing cost to serve and building order size.

• Price optimization using a strong strategic pricing program is always a good recommendation. Even profitable accounts may have “pricing outliers” – below-market pricing on some items.
• Order size is a profound indicator of customer profitability. Profitable small accounts – small winners – are probably already placing good-sized orders. Building order size even more is always smart business.
• Cost to serve varies widely by individual customer. For smaller accounts especially there is no room for providing expensive extras that the customer doesn’t want or need. Examples include a sales rep who doesn’t add value, credit cards and premium freight.

It isn’t practical for management to personally intervene with most of the distributor’s small customers, even the profitable ones. Price optimization, building order size and cost to serve must be managed through the distributor’s sales policies, business processes and compensation programs.

SOURCES:

[1]  The names “big winners”, “big losers”, “small winners” and “small losers” are descriptive but they are a bit harsh. One of our clients calls them “big winners”, “big opportunities”, “winners” and “small opportunities”.

[2]  Net Promoter Scores are a popular tool used by marketing experts to evaluate customer loyalty by asking how likely the customer is to recommend a supplier to a colleague.

According to supply chain industry specialist, Michael Hugos, “because of supply chain complexity and changing market demands, order management is a process that is evolving rapidly.”  In order to keep up with that evolution, he lays out four basic principles to help distributors adapt their order management:

1. Enter Order Data Once and Only Once – Capture the order electronically as close to the original source as possible and do not manually reenter the order at any other point in the process.  Once the order is entered into the system, the relevant data should be transferred to other systems and supply chain participants as needed.   If possible, it is best if a customer can
   enter the order themselves.
2. Automate Order Handling – Data routing for routine orders should be exclusively handled by computer systems, with exception handling features in place to identify problems that will need people to get involved and resolve.
3. Make Order Status Visible to Customers and Service Agents – Enabling your customers to view their order status on-demand without the need to involve other people and escalating problems to service personnel as they occur will both lead to greater customer satisfaction and improved business.
4. Integrate Order Management Systems with Other Related Systems – In order to maintain data integrity, order entry systems need to automatically share the data entered in them with other systems to update inventory, calculate delivery schedules, and generate invoices in an accurate and timely manner.

A solution, like Advanced Distribution Software for Microsoft Dynamics AX, can help you adhere to these four principles by delivering a complete order management solution for your distribution organization.

To learn more about establishing effective supply chain practices, request your complimentary copy of Michael Hugos’ book, “Essentials of Supply Chain Management” (a $25 value).

Take stock using inventory management software

Look at all aspects of your business, and take stock; see what works, and what needs to be improved. Analyze what room for growth exists in each business function, and then contemplate how an integrated ERP solution could help increase your profitability. Certain problems plague the industry, and these are a good starting point to look at.

How complex is your purchasing process?

Do you respond to customer demand quickly? Does your staff work efficiently? Are your costs in line with industry trends, or does project management need improvement? Are you able to anticipate demand with facts or intuition? Certain wholesale and distribution solutions might help you grow your bottom line. Look closely at the ERP solutions that your organization uses to determine whether it’s effectively integrating the business functions that will allow you to cut costs, increase visibility, and keep the promises you make as a distributor of electrical goods.

Cut down on human error by automating your warehouse management system (WMS)

It’s no secret that people make mistakes, but even simple mistakes have a way of getting out of hand when they involve complex business processes. Automating your WMS cuts down on human error, and ensures that time wasted on manual processes is kept to a minimum. Even a savings of a few dollars per transaction builds up over the course of a year to be an incredible addition to end profits.

Run ahead of the curve with ERP solutions

To be a leader in Electrical Goods Distribution you need to improve margins, and an effective ERP can help you accomplish just that. Supply chain inventory management software will allow you to eliminate the labor planning complexities of manually picking and stocking inventory, and aids the effective management of projects from start to finish.

Transparency in business reporting is at the forefront of any organization, and is one of the top requests for managers. Providing your decision makers with data from wholesale and distribution solutions allows them to shape and control the future of the business. This encourages more accurate budgets and forecasting, and increases profitability.

1. “Planning will be long lived” – Supply chain industry planning is currently only      about 50 percent accurate. It is not goal-driven. To be successful, a business needs to develop an organized structure. Planning must be used to set goals and find direction.
2. Two-way flexibility will play a vital role – The supply chain industry is “flat”. Materials are outsourced to save money on manufacturing, but some industry leaders trade low costs for better customer connections. With two-way flexibility, they can develop a wide reach of production and diversity of customers.
3. “Centralized supply chain command and control” –Technology has provided companies with the ability to have a single view of the supply chain, but there is still a disconnect at some levels, particularly in the warehousing sector. These companies may decide to develop centralized supply chain command and control to increase standardization of warehouse management.
4. “Industry leaders might adopt social media tools” – Social media adoption has been very gradual among supply chain industry leaders, but many will be driven by the need to communicate with and remain visible to the outside world: customers, partners, and colleagues. This will improve both internal and external communication.

Nothing can replace good business practices, but with the right ERP tools, companies can orchestrate a supply chain that works in a variety of environments and for a wide range of customer needs.

1. Customer relationship management (CRM) that really works?
2. Business information inquiry software that is easy for everyone to use?
3. Customer profitability analysis  (CPA) & cost to serve (CTS) tools that help you make more money?

In my travels around the wholesale distributor landscape in the U.S. and Canada I have not met any computer genies with magic lamps. I have, however, talked with many distributor executives and managers including chief information officers (CIOs) who have some serious information system wishes. Conversations and observations at a recent major meeting of distributor ERP system users highlighted some of the most pressing user needs.

Many vendors offer add-on modules to enhance “nuts and bolts” functionality such as connecting with trading partners, processing credit cards and routing trucks. Stop for a moment and think beyond the tactical functions. Consider how your software could enable your management and sales team to execute your business strategy better and faster. What I have is mind is even bigger than increasing short-term profits. Imagine enabling your people to reach toward your “big hairy audacious goal”.

This letter will review three of the essential software functions distributors want most – customer relationship management, business  information inquiry and customer profitability analysis & cost to serve – to help you compare your information systems wish list to what other distributors are looking for.

Customer Relationship Management

Most distributors yearn for the perceived benefits of CRM software. Unfortunately most of the current offerings fail to meet the expectations of wholesale distributors.

• Where is the CRM software to be hosted: on the distributor’s own system or on someone else’s server? Either way the distributor doesn’t want to maintain multiple customer databases. Ideally the CRM information and tools should be fully accessible to users from the distributor’s system.
• When fully utilized, CRM software keeps track of all of the interactions between the customer and the distributor. However, distributor sales reps tend to see CRM as more of a prospect tracking system. Distributor sales reps mostly just want to stay on
  top of their leads.
• The applications for monitoring customer behavior evolved from mass marketing where the role of the sales person is minimal.  Most distributors have underdeveloped marketing capabilities with nearly all account development muscle being vested in the sales force. Distributor managers want to know what their sales reps are working on. They also want to capture contact information in the company’s database.

There is a “disconnect” between what distributor management wants from CRM versus what distributor sales reps want from CRM. No matter how sophisticated the CRM software is, there is bound to be dissatisfaction and underutilization when most users simply want to keep track of their contacts, not customer behavior.

Business information inquiry

Thirty years ago, back in the days of minicomputers, distributors learned to use “report writers” to obtain customized reports from their systems. Computer literate managers learned how to link files (such as customer files and sales rep files) using common data elements such as customer number to generate reports. Most managers and all sales reps had to rely to on the overworked controller or IT department to create special reports for them.

• The promise of “information for all” became realized when powerful add-on inquiry tools appeared. Data-hungry distributors invested major sums of capital in software that promised to be easy to use and to provide stunning new ways of presenting  complex information.
• Most of these tools became the exclusive province of the CFO and the IT department. Only the most tech-savvy CEOs devoted the time and effort needed to master the beast.
• On the positive side of the equation, high-end ERP systems now include role-specific interfaces simple enough for most managers and sales reps to obtain needed information on their own.

Distributors must be as responsive to the information needs of their sales representatives as they are to management.

Customer Profitability Analysis & Cost to Serve

The three legs of the customer profitability stool are margin %, order size and cost to serve. Distributors are becoming increasingly aware of the need to manage each of their largest customers as a “segment of one” using CPA and cost to serve data.

• Distributors and their transaction processors historically have been gross margin-centric. There is growing recognition of the need to know operating profit, not only gross margin, on the transaction level and customer level.
• Pricing, the most under-managed distributor function, is becoming elevated to the strategic level. Distributors are looking for ways to automate customer segmentation, stratification and item sensitivity. The objective is to obtain pricing consistency and optimize margins.
• Distributors want to measure the cost to serve large accounts at the transaction and customer levels including outbound freight costs, sales and technical support costs, customer payment habits and customer-specific inventory.

The next generation of distributor systems is likely to include full automation of the pricing function as well as cost to serve measurement and customer profitability analysis.

The common thread of what distributors really want from their system is functionality designed around the needs of the sales representatives, not only managers and IT staff. The sales group is the highest cost but lowest productivity function within the distributor organization.

This demo addresses common Industrial Distribution challenges like:

• Slow sales order creation
• Access to customer information
• Sophisticated pricing and rebate needs

By viewing this, you will see how Microsoft Dynamics AX addresses those common challenges with:

• Quick order entry
• Easy use
• Inventory availabity
• Pricing calculation

The Advanced Distribution Software Partners have been instrumental in creating this Industrial Distribution Demo Video built on Microsoft Dynamics AX technology.

According to Jon Schriebfeder, president of Effective Inventory Management, Inc., there are four key ways to make sure your stock  balances are accurate and stay that way:

Record ALL Movement of your Material

Many times, when a material transaction is not properly recorded, it is because an individual found a reason to go around the system.  However miniscule, any material-related transaction needs to be properly documented in order to ensure that your stock balances stay accurate.  Schriebfeder recommends working with all of your people to develop a manual or guide that describes step-by-step how each inventory-related transaction must be documented.  Once the manual is in place, make sure it is enforced!

Assign the Right People to the Right Task

Many distributors underestimate the importance of the individuals handling receiving and stocking.  Because receivers must be able to identify products, differentiate between similar looking products, and ensure that the amount and quality of the products received are suitable, that task should only be given to experienced personnel who have an intricate knowledge of your inventory.  The same goes for the individuals who stock your warehouse.  It is also imperative that your warehouse managers are capable of delegating responsibility and ensuring that the tasks that they delegate are completed to your exact specifications.  Filling these three positions with top-quality talent will help to ensure that your policies are upheld and your stock balances are accurate.

Consider a Bar Coding Solution

Implementing a bar coding solution can help you verify that the correct items are being picked and put away, instantly update your distribution management software solution, and eliminate manual errors from the need to “key” in information.

Ditch Your Annual Physical Inventory and Cycle Count Regularly

Conducting an annual physical inventory is not remotely as efficient or effective as counting a few products each day of the year.  While you can select the items you are going to cycle-count randomly or based on their geographic location in your warehouse, the most effective way to maintain accurate stock balances is to rank your products based on which are sold most often and count them the most often.  This means that slow-moving and dead-stock items would still only be counted once a year.  While implementing a regular cycle-count can be challenging, it is well worth the effort to know exactly how much of your most profitable products your have on hand every day of the year.

For more tips on maintaining accurate stock balances and effectively managing your inventory, download all 6 of Jon Schreibfeder’s whitepapers.