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How distributors can improve profit margins

Improving profit margins is crucial for distributors looking to be successful in the long term. Yet, because distributors sit between manufacturers and retailers, it can be hard to control factors such as raw materials and suppliers, logistics and transportation, or the final cost of the product.

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In the Australian marketplace, which is under pressure from large global players such as Amazon, it can seem as though staying relevant is the key challenge, let alone improving profits.

Distributors can take control, however, and achieve strong growth if they focus on the right levers. Staying relevant in an era defined by digital disruption means meeting the competition on a level battlefield and using the most modern and effective weapons available.

Distributors that consistently command high gross margins tend to focus on the same eight actions:

1. Set pricing strategically

When setting prices, distributors must take a strategic and considered approach to maintain margins while keeping prices low enough to be attractive. Prices can’t just be the purview of one person. Instead, prices need to be set based on information from sales, finance, marketing, purchasing, and operating teams. Therefore, distributors should set up a pricing committee that has access to all the information needed to make smart and informed choices. Pricing needs to be updated regularly in response to changing market conditions, and the pricing committee needs to have full access to the data required to do this effectively.

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2. Define profit goals

Of course, every distributor wants to maximise its profits but it’s not enough to agree that bigger profits are important. It’s important to set tangible, specific, and achievable profit margin goals that can be measured and that will incentivise sales representatives. The goal may be to maintain margins or increase margins to a certain level. Either way, it’s important to communicate these goals to the entire team, so that each person can focus on achieving these target objectives. Furthermore, by making the goal specific, sales representatives can assess each deal in light of the defined required outcomes—encouraging them to push for a better deal as necessary.

3. Use list less pricing

Cost plus pricing takes the cost of goods to the distributor and adds a mark-up to create profit. This approach is simple and easy to calculate. Unfortunately, it doesn’t take into account competitor pricing or cost overruns. It also leaves little room to sell at a higher margin, and sales representatives often end up applying the same mark-up to all items, regardless of underlying factors that may make it untenable.

Cost plus pricing also negates any benefit the distributor may have gained from lower purchasing costs; as the cost of purchase goes down, the sell price goes down with it.

Fixed pricing can overcome this but it’s an incredibly labour-intensive approach since distributors must manually fix the price for each item.

List less pricing starts with the list price of an item and discounts it by a certain percentage. This is more likely to yield a strong profit margin because it’s harder for the customer to determine the price the distributor paid for the item, and disassociates price from the customer’s cost.

List less pricing also often sounds better to customers. For example, list less 50 percent could be exactly the same amount as cost plus 20 percent, but to the customer, the 50 percent discount on the list price just sounds better. It can also make them feel like they got a better deal, leading to stronger ongoing relationships.

4. Treat customers individually

Not all customers and products are equal. Some high-value customers are able to negotiate bulk discounts on high-volume items or demand special pricing across the board. This makes it hard to apply a single gross margin across all products and customers. Instead, distributors should classify items and customers into different categories based on key characteristics, then apply a pricing structure that lets them achieve the highest margin possible while still retaining customers.

5. Manage approvals

Effective negotiation requires sales representatives to be empowered to drop prices to a certain extent. Rather than give sales teams carte blanche or, worse, refusing to budge on price at all, it’s valuable for distributors to set guidelines around prices. This gives sales representatives enough autonomy to make the deal and, if a deal falls outside the set guidelines, there should be a formal review process to make sure an exception is truly justified. This makes it easier to do the right deal with the right customer, without the risk that some customers may become unprofitable because the sales representative agreed to a too-low price.

6. Offer value-added services

Value-added services can be the difference between customers choosing one distributor over another. Charging the right price can help distributors recoup the costs of these services, without alienating customers, and create potentially large revenue streams.

7. Monetise customer service

Exceptional customer service could be one the key differentiators keeping a customer with a distributor in the long term, so it’s important to understand how to offer the best customer service and how to monetise it. The best customer service will deliver better customer retention rates and eliminate the need to provide discounts or incentives to retain customers.

8. Walk away

Sometimes, the smartest way to maintain profit margins is to walk away from unprofitable business. There are some customers who aren’t worth the cost of serving them. There can be ways to turn unprofitable customers into profitable ones, such as by changing pricing or delivery models. However, in the end, it’s important to be recognise when it’s time to walk away.

Gross margin is the single most important competitive factor for distributors to grow and thrive. With customer expectations for speed and convenience on the rise, Australian distributors will need to digitally-enable and integrate every aspect of their operations to deliver ‘Amazon-like’ experiences and respond quickly to changing customer demands, or they won’t be able to stay competitive.

Greg O’Loan, regional vice president, ANZ, Epicor Software Corporation

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