INFORMATION INTO KNOWLEDGE CASE #1:"WHY IS A BRANCH PROFITABLE?
SETTING THE STAGE
This mini case is a true, disguised story. The year was 1983; the company was a large durable goods distributor - well over $200 million in sales and more than 50 branches. The CEO was a professional, financially oriented manager in search of "success guidelines" for running distribution branches.
The scene starts with a lunch conversation between the CEO and a consultant, Ralph, who was helping on a marketing project.
CEO: "Ralph, what do you think makes a branch highly profitable?"
Ralph: "Lots of things, I guess. Why do you ask?"
CEO: "Well, its been bothering me for 5 years. I am convinced that with our terrific information system and so many branches to analyze , we should be able to extract some set of success guidelines. Then, if all of my managers followed those rules, even the mediocre ones could be systematically more successful.
We have failed, so far, in this quest. We hired a well-known consulting firm in 1978 to help us. They cost us $250,000 which was a lot of money back then. They said "market share" was the key, because of economies of scale and expertise, image benefits, etc. Well, we got a fancy report and a slick slide show out of it, but there was no correlation between financial return and volume in the local market. There wasn't even a correlation between return and total sales size of the branch.
I am reluctant to admit that I now have retained another big firm to address the same issue. For about $100,000, they are in the process of doing a regression analysis on 92 measurements for each branch against return on investment. Is this all crazy?"
Ralph: "Well, for most business games, there are success guidelines that can generally work, but I have concerns about the heavy quantitative approach. Sometimes when things correlate it is just a coincidence or both factors are symptoms of some deeper hidden cause. Some profit causes are tough to measure; for example, will this current study measure the quality and the local longevity of the branch managers? And, will it measure market share within a niche of customers? Niche domination is profitable, while selling product volume to many niches in a general, mediocre way yields big sales and poor profits."
CEO: (stunned look, pause) "Gosh, we really haven't included measurements for those factors. Why would you choose them? And, how would you measure them?"
Ralph: "Well, in my distribution-chain building career in the '70s, we bought some dog locations. After turning a number of them around, a success formula emerged for us which started with installing a new star branch manager. This "champion" would quickly weed some laggards; hire some new, quality folks; and help the rest get remotivated. Better quality people with motivation who stay put will eventually achieve distinctive service, especially if you give them a target niche to go after.
We would simultaneously choose our best niche to try to dominate, which meant, at least 50% share and ideally 60% to 80% share. We would determine first - what our historically best niche was; why; and how to better serve it. It was equally important to know which niches were owned by competitors, so that we could avoid those accounts to better focus on our best shot.
Within the niche, we would identify and rank our best 20 target accounts. Our branch manager and inside staff would then team-sell them persistently. Every employee knew those 20 by heart, so that we could make it happen for them.
We beefed inventory to provide one-stop-shop and fill-rates that were at least as good or better than the next best competitor. Once we got 2 or 3 "A" accounts buying out of our warehouse on a contract basis, things started to take off. We would have enough product volume flow so that our buyers could re-order more often and fine-tune the fill-rates even higher. Then, the rest of the niche gravitated to us, because of word of mouth satisfaction and often because of inept, unfocused competitors' service failures.
This all hinged on getting the right branch manager. Then, the strategic focus, investments and persistence paid off. The process would take 1 to 4 years depending on how sick the location was and how tough and focused the local competitors were. And, I might add that your quarterly emphasis on pre-tax return on controllable assets would have undermined this type of turnaround process.
CEO: "Fascinating! It makes sense, but how can we measure this process in our current study? I can't get my money back now, and they are getting ready to run their computers!"
Ralph: "Let's try to invent some quick-and-dirty first approximation measurements for these factors; would you please hand me that extra napkin over there to draw on.
We could rate the branch managers on a grid for quality and location longevity. On one axis we could score their ability on a 1 to 10 scale. Then, for the longevity dimension we could multiply their ability score by .60 for 1 year tenure, .85 for two, .95 for 3 and 1.00 for 4 or more years. This assumes that if great things don't happen in the first four years, they aren't going to. Then, we would have a new factor for the study.
For strategic focus we could use another grid relating active niches by the number of "A" account deals in each niche. Guesstimate what percent of sales falls in each of whatever number of customer niches a branch has historically been pursuing, then multiply that percentage by some number that escalates with the number of big contracts that exist within each niche. The highest theoretical score would occur if 100% of a branch's sales were in one niche multiplied by .25 for 1 contract, .50 for 2, .75 for 3, and 1.0 for 4 or more. Then add this new factor to the study."
SIX MONTHS LATER- A PHONE CALL:
CEO: "Congratulations Ralph! The results of the study are in and the number one correlating factor for a high return was a star branch manager in place for 3 or more years; nothing else was close. But, all alone in second place was 3 or more big warehouse contracts with customers who were all in the same niche. Where were you in 1978, you could have saved me the $350,000 plus that we have spent trying to extract success rules out of information."
Ralph: "Hey, great! But, I must ask - will you do anything differently as a result?"
HOW THEY CHANGED:
With a new theory for branch profitability that was supported by their own numbers, this traditional thinking chain made the following, culturally tough changes:
1. They raised pay, expectations of and responsibilities for branch managers as fast and as much as they could, especially in the big cities were manager turnover had been the highest. These and other measures changed the status of being promoted to regional manager(RM) over branch manager with better pay. Over 30% of the branch managers soon were making more than the fewer RM's to whom they were less beholden.
2. They did on-going studies on what made a branch manager a "10" in order to: better hire and develop future managers; evaluate and educate existing managers; and weed sooner those who weren't ever going to grow to the new expectation level.
3. They became much more niche-dominate oriented instead of product and sheer customer count oriented. To forward invest in niche-domination, they created a strategic investment fund that invested in branch inventory and better salaries for key people.
As they got more process-smart with niche domination, they further innovated off of this knowledge base. The chain doubled sales and quadrupled profits in the next 5 years.
Good strategy can be bought, although this case illustrates that there is no correlation between the price of the advice and its value. The best strategy, however, is still dependent upon excellent implementation, especially in a local service business like distribution.
Possession and command of information should not be confused with knowledge of what currently will succeed in the marketplace. Most numbers are symptoms of underlying causes. If we have the right theories for what causes profit power, then we can know where to look and how to measure the right factors. Once we are measuring the right things, then we often have the will and the way to make longer-term, bigger and more successful bets.
For all games, including the game of business, formulas for success can be developed and leveraged. Business formulas decay, however, as either competition cracks the code and executes better or environmental change obsolesces conventional wisdom. Then, new wisdom is needed to see and get to the future success rules first.
Merrifield Consulting Group, Inc. DO Essay # 8, Article # 2.12