Issue link: https://www.e-digitaleditions.com/i/414972
54 FEDA News & Views tions. The first is that physical sales volume increases by 15 percent. This, of course, is offset by the price reduction, so dollar sales increase by only 9.3 percent. However, cost of goods sold increased by the full 15 percent. This scenario assumes that the firm can generate the added volume with no increase in expenses. Even so, profit declines by an unpleasant 118.7 percent. The second scenario assumes that the price cut produces no increase in physical volume. Consequently, sales decline by 5 percent. However, the firm is able to offset the price reduction by reducing expenses by 15 percent. Again, the profit impact is highly negative. The final column combines the sales increase with the expense reduction. Candidly, these are two very difficult fac- tors to combine. However, if such a program can be put into effect, the firm can increase profit by 35 percent. It can also maintain its position in a more price-driven market. Exhibit 1 presents only one specific price cut (5 percent), and three different scenarios. There are, of course, an almost infinite number of assumptions that can be made. In addi- tion, every firm starts with a slightly different set of operat- ing economics. Exhibit 1 can provide some understanding of the nature of price cutting for FEDA members, but it can't examine the specifics for individual firms. To help in this evaluation process, the Profit Planning Group is offering a free Excel® template. It allows firms to tailor the analysis by entering their current results as well as assumptions about the size of price cuts and any changes in sales and expenses—both payroll and all other expenses. To download the template, go to profitplanninggroup.com and click on the Seminars section. At the pull-down, select PriceCutTemplate. The password is ProfitBarriers and is case sensitive. Open in "read only" mode. Marketing Realities Exhibit 1 can do nothing more than provide a framework for understanding the economics of price reductions. It has noth- ing to say about a much more fundamental issue—whether the price-aggressive market is reality or hysteria. Seemingly every 10 years or so, another new, highly-innova- tive competitor enters distribution. As always, the new com- petitor supposedly will lead to the end of the world as we know it. While no competitor should ever be taken lightly, it is beneficial to understand exactly what can be done to parry the competitive thrust. There are three significant issues to consider. Market Position In any competitive battle, the firms that suffer the most are the ones without a clear market position. Unfortunately Price Cutting Economics continued that description covers far too many distributors at the pres- ent time. A low-price, low-cost posture is a brilliant strategy. Alternatively, a high-price, high-cost structure is equally bril- liant. However, a hybrid approach—caught in the middle and fighting battles on two fronts—is almost a guarantee of failure. Every firm must stake out a market position, ideally as far from the center as possible. Focusing on Customer Needs For day-to-day procurement decisions, customers continu- ally express the same hierarchy of needs. First, they would like distributors to be in stock more often than they are. Second, they would like a broader product selection to facilitate one- stop shopping. Third, they want error-free performance by suppliers. Finally, price is never ranked higher than fourth. If firms can deliver with excellence on the first three factors, they can mitigate— but not eliminate—the challenge of price competition. If there is only parity on the first three, then price will dominate the competitive battle. Stretching the Price Matrix Firms continue to sell a wide range of products. At the fast- moving end of the product line, many items are commodities and must be priced aggressively, even by higher-service dis- tributors. At the slow-selling end of the product line, there will always be major opportunities to replace any margin dollars that may be lost at the com- modity end. Firms need to stretch the price matrix. If prices are cut on com- modities, they must respond by raising prices on the slower sellers. For most items at the lower end, the key issue is availability. Firms can maintain margins and still be close to price-competitive. Moving Forward The distribution world is probably as price-competitive as it has ever been. Survival requires an understand- ing of the trade-offs between price reductions, sales and expenses. Beyond that, firms must develop a strong marketing position. That is, they have to stand for something in the marketplace. Once that position is established, they can develop the appropriate marketing and pricing programs to be both price competitive and profitable at the same time. About the Author Dr. Albert D. Bates is founder and president of Profit Planning Group. He is the author of the newly-released Breaking Down the Profit Barriers in Distribution. It is a book every manager should have. It is available from Amazon and Barnes & Noble. In any competitive battle, the firms that suffer the most are the ones without a clear market position. Unfortunately that description covers far too many distributors at the present time.