Customers segment distributors much like distributors segment customers. Because of this, customers don’t typically think beyond the products they already buy from you. This article examines how distributors can expand what they sell to existing customers by uncovering unexpected cross-selling opportunities in their transaction data.
As consumers, we routinely experience cross-selling by retailers. It can be as simple as “Do you want fries with that shake?” or in more complex e-tail environments: “Customers who bought X also bought Y.”
Companies who do this well include Amazon and Netflix. In fact, Netflix thought the problem was so important that they setup a contest with a $1 million reward for anyone in industry or academia who could create and demonstrate a better recommendation engine for movies.
For distributors, growing existing customers is the overwhelming priority relative to customer acquisition and winning back lost customers, as identified in a 2011 survey conducted by Modern Distribution Management (See graph.). Up-selling and cross-selling are the two primary means of growing an account. Among these, cross-selling is paramount. Here’s why: Many distributors have regular customers who buy the same set of 10 to 20 SKUs over and over, yet they have thousands of other products that could be sold to those same customers.
However, customers segment the distributors from which they buy much in the same way that distributors segment customers, according to Jim Tenzillo, a former vice president of marketing at Grainger. For example, they know that supply company A is where they buy abrasives. And they don’t think of supply company A for anything besides abrasives.
Distributors that are routinely successful at expanding the product categories sold to customers recognize that once a customer has been acquired, there is nominal incremental cost to sell other products.
They go beyond selling the associated products recommended by the supplier and actually cross-sell other suppliers’ products. In addition to increasing the revenue per customer with each additional product category sold, they also increase the cost to the customer to switch to another distributor.
Barriers to Cross-Selling
The best salespeople generally know what to cross-sell based on their own experiences. While they are much better than average salespeople at cross-selling, they are far from perfect. And since even small distributors have several thousand SKUs, determining the best cross-selling relationships requires a more analytical approach than “eyeballing” the stock on hand.
The necessity of an analytic approach to discover cross-selling potential is best illustrated in a well-known and colorful cross-selling relationship now commonly used in retail settings.
Using point-of-sale data, a large retailer found that diapers and beer are sold together frequently. In fact, this relationship was so strong that they decided to place diapers near beer in the store to maximize the cross-selling relationship.
One common explanation for this cross-selling rule is that a husband has been sent to buy diapers and decides to also pick up beer while at the market.
In the database marketing seminars that we give, when we ask the audience to explain this phenomenon, we hear other much more piquant explanations.
The relationship makes sense. Yet because it’s not intuitive, no retailer figured this out before the use of analytic techniques.
Identifying Good Cross-Selling Opportunities
Given the large number of products at most distributors, there are potentially many cross-selling rules or opportunities that can be identified. The trick is to identify rules that when applied will produce a meaningful sales lift.
There are two attributes you can use to find good cross-selling opportunities:
Support – This defines the percentage of total transactions in which items A and B appear together. If items A and B appear together frequently, then the combination may be a good candidate for cross-selling.
Confidence – This defines the percentage of item A transactions where item B also appears. If item B appears in a high percentage of the transactions where item A appears, then the combination may be a good candidate for cross-selling.
For items A and B to be good candidates for cross-selling, there should be both high support and high confidence. That means that items A and B occur together frequently and that if item A has already been selected for purchase, there is a good chance of selling item B.
For distributors with many SKUs, high support often means that items A and B may appear in the same transaction in as few as half a percent of all transactions. The confidence from A to B should be much higher, typically more than 20 percent, because otherwise there will be an attempt to cross-sell item B when there is a low probability of its being sold with item A.
A simple example for a restaurant will illustrate the concepts of support and confidence using guacamole and chips. By analyzing the sales data, the manager finds:
- 10 percent support for guacamole and chips
- 50 percent confidence from guacamole to chips
- 25 percent confidence from chips to guacamole
This means that 10 percent of all transactions include guacamole and chips. In addition, 50 percent of the time when customers buy guacamole, they also buy chips. However, only 25 percent of the time when they buy chips do they buy guacamole because they might also buy salsa or other condiments.
The requirement for support can be reduced significantly as long as the confidence in the rules is high.
Identifying the products for cross-selling is only the first step in developing cross-selling rules. Distributors must also establish where the rules will be most effective. First, it is important to choose the right level in the product taxonomy as the basis for the cross-selling rule.
The SKU level usually does not work well because no pair of items has sufficient support to be applied. The next level up in the product taxonomy, which is the model, product or product line, is usually the most appropriate level for defining cross-selling rules.
Second, it is important to choose the right unit for analysis. Many cross-selling rules are applied at the level of a transaction. However, other cross-selling rules take a larger unit to analyze, for example all purchases in a one-month period or even over the lifetime of the customer.
The choice of which unit to analyze should be determined based on support for the rules. Analyzing support at the transaction level may not provide enough information to identify the relationship or the cross-selling opportunity.
While there can be many different possible cross-selling rules, it is often the case that as few as 20 to 30 rules will be sufficient to provide significant lift in sales. But it is important to consider who will be using the set of rules and in what setting. For field sales, it is important to have a small set of rules that can fit on a single page of paper.
Technology can significantly expand how many rules may be used at any given time. Inside salespeople who are supported by a CRM product can act on more rules effectively because the rules are built into the system. The same is true for e-commerce platforms.
Cross-selling is the most relevant technique for growing revenue with existing customers. Analytic techniques are essential for cost-effectively identifying and applying relevant cross-selling rules. The application of even a small number of the right rules can provide sales lift of 1 percent or more.
Jonathan Bein, Ph.D. is a Senior Partner at Real Results Marketing. Rob Kelley, CFA is a Partner at Real Results Marketing. Contact them at email@example.com or visit www.realresultsmarketing.com.