Wholesale distribution has come a long way since the heydays of the 1940's. Each decade has brought new challenges relative to how distributors operate and grow their business. In the early years, it seemed like a Field of Dreams, with the byline of build and they will come. The country was experiencing post-war boom years, followed by the surge of baby-boomers. Distributors grew at a fairly rapid pace, and meeting customer demands was the highest priority. There was even a period of years when the slogan of many businesses, was The Customer is King. History has taught us trying to live up to that slogan can be very costly. We opened new branches, brought on new products, added people, and increased our value-added services to meet our customers needs. Then something happened in distribution that has a grip on most vertical markets. Competition started to come from every angle, and pressure on gross margins squeezed them to barely acceptable levels. We still wanted to serve our customers, but we had to do it with some caution. We found out not every customer was a good customer in todays overly competitive marketplace. Some customers have been around for years and years, but like all businesses, they too have changed. While they might have been a great customer at one time, now they struggle to pay our bills, or have taken most of their business to the lowest provider.

 

We need to analyze our customer base each and every year to determine where we are making money, and where we are spending hard earned cash reaping little to no reward. It is a fact all of us in distribution only have so many resources available to service our customer base. We only have so much cash, so many hours and so many people. We can't afford to have our inventory grow through the roof and move from a just in time inventory to a just in case inventory. We need to align our inventory and purchasing strategies with those customers who are providing the largest impact to our bottom line profits. The trick is to find out who those customers are, and what products and services they are requesting.

 

If you were to ask personnel to name your top five customers, you would probably get answers based on volume, hassle factor or

number of times they call. If you ask them to name your top five most profitable customers, you would be surprised how many of

them would name the same five. Unfortunately, many of us don t know the most profitable customers, nor the that ones drag down

your overall financial performance. The best way to figure this out is to use a customer profitability analysis, or implement a detailed activity-based, costing strategy that drives down to a customer profitability analysis. These are great methods; however,

implementing them can drain your resources. But, doing nothing is the wrong approach as well! I suggest you take a stab at trying

to figure out your most profitable customers, using a simple approach. It is not an exact science but it will give you some sense of

where your money comes from, and where it is foolishly spent. I want to emphasize this approach is meant to highlight your

losers. -- But more importantly, to drive you to analyze invested dollars on inventory to service those losers. Since all of your

cash is tied up in inventory and accounts receivable, quit spending money on losers and start allocating it on the winners in your

customer base.

Step 1 - Determine the cost of processing an order in your business. What I am after here is the cost of taking an order,

packing it, shipping it and getting your money. Each of these stages has internal costs you assume are being covered in your pricing

matrix schemes. For most distributors, the cost to process one order completely is around $40.00 per order. Note that I am using a cost per order not a cost per line item. If you can get to that detail with some accuracy, then go for it.

 

Step 2 - Determine on an annual basis the following information for every customer you have

1. Total sales

2. Gross Margin dollars

3. Total Cost of Goods Sold dollars

4. Number of orders processed to achieve

the dollars mentioned in 1, 2, and 3.

This cost can change drastically based on the type of products sold and the services provided with each order. However, for most hard-goods distributors, $40.00 would be a good place to start.

 

Step 4 - Now that you have multiplied the number of orders by the $40 per order cost, subtract that resulting product from the Gross Margin dollar figure for each customer.

The result will be either a positive or negative number.

The result is an Excel type spreadsheet like this. Surprisingly, you ll get to zero and negative after about 20% of your customers have been analyzed. It is the remaining 80% that have some negative drag on your bottom-line profits. While you could never fire all those under the zero net profit line, you certainly need to analyze how you are doing business with them. I recommend you look at each customer with a negative net profit, and determine how you can work with them to create a positive impact. What you will find is about 50% of those with a negative net profit can be salvaged. But, the remaining 50% need a more stringent course of action.

Wait, before you decide to fire any customer add to the equation their accounts receivable balances and payment histories. What

you will often find is that not only are you not making any money on their orders, but you are also banking them with you re A/ R.

Now you should be very upset, and moved to take some or all actions required to fire them. More importantly, look at what

products they are buying from you and make sure you are not stocking products just for them. If you are, you are wasting a great

deal of your valuable cash asset. Those with negative net profits should not get special services, should only be allowed to buy from your stock, and should not receive any special orders. You might also not allow them to return merchandise. In addition, here are a couple of other actions to consider:

 

1) Make them a cash-only customer;

2) Require immediate payment of past-due balances;

3) Change the pricing matrix such that they pay a higher price;

4) Charge for deliveries; and

5) Do not allow them to use any of your value-added services

 

I strongly suggest you make it an annual event to fire some of your worst customers. Use any method you want but, do it! You

will see the impact on your bottom line and your inventory. You will also find many of your employees are glad you did. Their time

is valuable, and their efforts should be spent on those customers yielding a profitable return.

Customer Name	Sales $	COGS $	Gross Margin	# of Orders	C.O.P.O	# Orders times $40	Contr. to N.P.
XYZ	5000	3000	2000	10	$40	$400	$1,600
ABC	4000	2000	2000	20	$40	$800	$1,200
HGS	7000	4000	3000	50	$40	$2,000	$1,000
TBS	5000	3800	1200	30	$40	$1,200	$0
VGT	8000	5400	2600	70	$40	$2,800	($200)