Strategic Insights 38
GROW EVERYONE’S WEALTH WITH COST-TO-SERVE-MATH
What is Cost-To-Serve (CTS)?
What is the “operating
profit” that you make on every – line, order, customer,
customer-niche and territory – OR – SKU, product group or supplier line? You
know the Gross Margin Dollars (GM$s) and Gross Margin Percent (GM%) in every line event. But, what is the
estimated, service-activity costs for processing each line item event? Call
this the “Cost-To-Serve Dollars” (CTS$s).
How to create a good-enough,
CTS model is another-day topic. But, have this vision: be able to calculate a Value Exchange Equation (VEE) for every line event in your
fiscal year. Shorthand for a VEE is:
CTS$s = Profit$s.
Once you have Line-Item
VEEs, they can be summed up to give VEE’s for: orders, customers, SKUs, etc.
All of the line-item VEEs for the year should total to the same numbers on your
final financials for: GM$s, Total Operating Expense$s
and Operating Profit$s.
GM% Obsession is Misplaced.
Note that GM% is not
included in the VEE. What matters is if the line’s GM$ content exceeds the
CTS$s for good Profit$s. All things being equal,
selling the same lines/orders at a higher GM% is better. But, this does not
mean that a naturally occurring high GM% – line, order or customer –
with small GM$ content is profitable. In fact, the great majority of high
GM% elements in your business have losing VEEs.
By example: wouldn’t you
guess that some low GM% orders (a $100,000 direct ship at 12%) are very
profitable? And, a $2 line pick in the warehouse with a gaudy 50% retail margin
won’t have enough GM$s to cover the average cost of a warehouse pick. There
is no minimum, must-have GM% target for a warehouse line. Such a target ignores
the size of the GM$ content in the line v. the CTS$s.
We Can Do One More Small Order for Free: FALSE!
When a typical distributor
calculates VEEs for every line item, they discover 70% of all line items are
losers. The profitable 30% may generate about 300-500% of the operating profit
to then pay for the 70% losers with 100% of the financial-statement, profit
remaining. Assume: “take one more small order to keep idle people busy” for
years. Then, you have accumulated enough losing lines to keep a number of
full-time-equivalent people 100%-busy losing money. Chronic, losing busi-ness prevents proactive, next-level service
improvements for a small percent of high-profit (potential) customers.
Next: Profit Ranking Reports and Whale Curves.
CTS Math makes profit
rankings for all elements possible. Customer or SKU profitability Whale Curves illustrate startling cross-subsidies (Google Image: “Whale
curve”). But, the CTS-Math facts of super-profit winners and losers are only
“symptoms” of what underlying “root-causes”? With a Line-Item, VEE database, what new CTS-Math Insights do you
don’t have equally effective buying: logic, processes and habits.
often decided to give your firm 100% of their needs. Combined with their good,
forecasted-demand and disciplined replenishment systems, their orders have
larger GM$s per line and per order with great annual volume too. Smart
customers choose better, total supply-chain savings over just “Price
create high CTS$s for you and high, unmeasured Purchasing Activity Cost dollars
for themselves. Their small-dollar (emergency) orders on the
same repeat SKUs also costs their folks unmeasured Downtime Costs for
lack of product.
The Law of Reciprocal Costs emerges. A distributor’s service activity costs are
mirrored more or less by the customer’s purchasing activity costs and
inefficiencies. Be the first to prove to super-losers – with their own buying
statistics – how a re-tuning of their buying activity will save you both on
formerly, hidden, activity costs. Many will be so pleased,
they will want to give you more volume, but now on a profitable basis.
buy-sell activity costs with CTS Math is a one-time, big win for all four
stakeholder groups. Customers save and buy more from you. Profits for shareholders
and compensation for all employees both grow. And, suppliers
love your faster growth and fast pay from free cash-flow dollars.
Turn Data into è Information
è Knowledge è Actionable
for every line item is “Quantum
(smallest indivisible unit) Profit DATA”.
line-item VEEs for an SKU or a customer and plotting those points on Whale
Curves yields cross-subsidy INFORMATION.
Finding what buying
patterns cause big profit and loss customers is KNOWLEDGE.
hidden, high-activity, low-dollar buying that costs both parties unnecessarily
and offering buy-sell-process retuning solutions is ACTIONABLE WISDOM with big payoffs.
For More Actionable Wisdom…
presenting on “CTS Math, Actionable Insights” at the Advanced Profit Innovation
Conference on Sept. 29-30 in Phoenix. Consider attending! (apicconference.com)
me about a new video-based CTS Math course for every distributor employee. We
are looking for beta-testing volunteers.