Brent Grover of Evergreen Consulting recently spoke with MDM about the importance of the concepts outlined in his latest book, "Strategic Pricing for Distributors: Tools and Rules for Building Higher Margins." Grover writes that strategic pricing can result in an increase of 200 or more basis points (2 percentage points) of gross margin percentage. "It’s far more dramatic than slashing the staff or reducing sales commissions," he tells MDM. This article looks at why now is a good time to implement a new pricing strategy and analyzes the importance of two key aspects: the sales team and technology.
Grover’s book, written as part fable featuring the fictitious Mahoning Distributors, and part practical guide, was released by the National Association of Wholesaler-Distributors Institute for Distribution Excellence and is available at www.naw.org/publications.
Research for the new book, "Strategic Pricing for Distributors: Tools and Rules for Building Higher Margins," found that less than 4 percent of distributors interviewed were totally satisfied with their pricing management process, and 29 percent were mostly satisfied. On the flip side, more than 50 percent were less than satisfied.
For those who were satisfied to some degree, author Brent Grover found some similarities in how they’ve approached pricing. They grant less authority to inside and outside sales reps, are more likely to employ customer segmentation and pricing sensitivity analyses, and, interestingly, tended to be smaller. The companies indicating more satisfaction with their pricing practices also are more profitable as measured by return-on-sales and ROI.
For those who aren’t satisfied or are still looking for some improvement, Grover believes now may be a good time to make a change. In fact, even top-performing distributors can do better, he says.
"The best-run companies we have worked with – those who know how to gain market share, control people and non-people expenses, and manage assets – do not have good pricing processes," he says. "Now, when it’s so hard to grow sales, distributors have three choices: cut costs, squeeze cash out of the balance sheet, and improve margins. Most of them are doing the first two very well, but not the third."
"There is an excellent opportunity to improve margins right now," Grover says. "Just as much opportunity as when business is good."
In fact, Grover points out that from 2004-2007 many distributors experienced more severe margin deterioration than some are seeing now partly because prices from suppliers were going up so rapidly, and "the salespeople who didn’t have enough information to do their job and did not delegate acted like pricing clerks, tried to pass along increases to customers, but failed to do so."
Back to the present, where many distributors are facing rough sales conditions and declining prices. Grover contends that distributors have an opportunity to build margins by not passing on decreases as quickly or as fully as they are coming to them. Another reason now is a good time to explore strategic pricing: Many distributors are reaching the limits of bank borrowing. They are dealing with stressed lenders that want to contract the credit available to distributors. Bankers want more collateral and higher performance.
"If you are borrowing from a bank with loan covenants based on profitability, then you’ve got to generate profitability to demonstrate you’re worthy of a loan," Grover says. He says improving company profitability is also a good way to attract more capital to the industry. "We need to convince investors this is a good place to put their money."
In research for the book, Grover found that the more autonomy salespeople had, the less satisfied management was with the results. And the more autonomous salespeople were, the less profitable the company was. These results highlight the importance of
tackling hurdles to better pricing that lie in the sales department.
"We don’t feel you can talk about distributor strategic pricing without including sales management, sales training and sales compensation in the conversation," Grover says.
Compensation plans are perhaps one of the most difficult areas for distributors to tackle. Not knowing what can work, or whether they’ll see internal resistance, makes distributors nervous to change things. "Most distribution companies have compensated their salespeople based on straight commission and income variable on gross margin dollars," Grover says. In the book he says that a compensation plan often stands as a proxy for management: Management expects salespeople to "do the right thing" and optimize margins, which doesn’t always happen.
"That type of commission plan is only a first cousin of paying the sales force to simply generate volume," Grover says. "The sales reps figured this out long ago, but many companies under-manage the sales group by thinking that the commission plan is doing the managing for them. Most of the reps are going for volume, most of the time." But, Grover says, it’s sometimes tough for salespeople to do right as many salespeople are often well-trained on product knowledge and basic sales skills such as presentation and time management, but undertrained on pricing and negotiations. Without adequate information they are not in a position to be good negotiators.
Often a salesperson’s information on market pricing comes from a small percentage of his overall customer base – and often that competitive intelligence comes from customers who are not in the same customer segment or size range. In other words, ‘salespeople are often flying blind,’" Grover says.
He says managers must encourage salespeople to be more than pricing clerks. In the book, Grover asks managers to teach the sales staff to delegate routine pricing functions for most customers to support staff. "Competent sales reps can become more effective by delegating pricing activities for their smaller customers and less-sensitive items to the support staff," Grover says. "Being a pricing clerk is not the highest and best use of the sellers’ time."
Building a salesperson’s negotiation skills will also help. "With larger customers, and sensitive items, the selling process gives way to negotiation," Grover says. "Outstanding negotiators get great results not by using dirty tricks but because they have superior information. Strategic pricing mines the data and analyzes market pricing for like customers on like items.
"Sales reps succeed in high-level negotiations by arming themselves with market-driven information." Unfortunately, many times customers usually have the better information, and in many cases, finish negotiations in a better position than the sales rep.
Unlocking Market Data
Using technology, fresh, actionable market pricing information can be unlocked from distributors’ data, and turned into valuable knowledge the sales force and managers can use.
"The heart and soul of strategic pricing is putting analytics to work on the distributor’s transaction database," Grover says. "What’s going on here is taking the most recent 12 months of transactions – every customer, every item – and sorting the data. Segmenting customers, segmenting products, identifying customer pricing sensitivity and levels of resistance.
"It’s heavy-lifting for people, but an easy assignment for a powerful computer."
Grover says that any distributor with $25 million or more in annual sales has the capacity to implement a system to manage pricing analysis and change. More distributors are using pricing analytics through their current ERP systems, and others are taking advantage of pricing modules offered through Software as a Service, hosted elsewhere, cutting down on on-site IT investment. Still, the approach distributors take to technology is key.
"Strategic pricing provides powerful information, but it doesn’t not ‘automatically’ appear in the distributor’s pricing files," he says. "Part of the implementation job is rethinking the pricing process, and exploring ways to get more out of the ERP system’s pricing module."
A Part of Strategy
Of course, pricing involves more than just the sales team and technology – rejiggering a company’s pricing requires involvement from all departments in a distributorship. A cross-functional team should be deployed, and management should lead the charge and make clear pricing’s importance, Grover says.
Grover says that because pricing is part of strategy, it should be made a priority. "It has to do with the way the company deploys its sales force and the way it sets prices. That is basic strategy.
"… It’s how the distributor expresses its value proposition to the customer." He says that pricing translates the value provided to the customer into value for the company.
Keeping it "elegantly simple" is the key to ensure a new pricing system is effective, Grover writes. "A well-designed system will produce pricing recommendations for specific customer-item combinations as well as pricing guidelines for groups of like customers and groups of like items," he says. "An outside rep, inside rep, or anyone else can produce a consistent, market-driven quote for any customer-item combination."
Distributors certainly face hurdles in optimizing their pricing practices. But strong leadership involvement can help the company to overcome those. In addition, distributors should tap a qualified manager to take on responsibility for pricing as all of or part of his job description.
Leadership also must ensure that constant monitoring takes place to avoid back-sliding to prior pricing practices. If back-sliding does occur, the distributor can course-correct and move forward. In doing so, "many distributors have demonstrated sustained margin improvement and continuous improvement over several years," Grover says.