A few months ago, I spoke at a distribution conference in the UK. The speaker before me shared some compelling ideas on how distributors can improve profitability, but I could feel my heart race when he said, “Unprofitable accounts that can’t be fixed should be fired.” He went on to say:
“It’s OK to be a smaller company if you are more profitable as a result.”
Ugh. I hate it when pricing and profitability experts make this claim. Having led marketing for four large distributors, I’ve worked tirelessly to get my employers to focus on acquiring more customers. The cavalier suggestion that you should get rid of some of them — that it’s OK to get smaller — drives me crazy.
I get it — the math may make sense on the surface, especially if you have good cost-to-serve (CTS) metrics. However, there are several problems with this line of thinking.
CTS Calculations Don’t Fully Translate into Payroll Savings
Many of these customers are not as unprofitable as a CTS analysis may show. CTS gets most of its cost-savings from reduced labor — you either don’t hire or you fire people to recoup the losses you’re generating from unprofitable customers.
However, remember that CTS metrics are put together by analyzing the time it takes a distributor to pick and deliver orders — and these are averages. Getting those savings is harder in real life than in a spreadsheet. No distributor branch, call center or distribution center operates with a predictable, steady stream of business. Instead, activity rises and falls, often unpredictably, through the phones, over the counter and in the warehouse.
You can’t only staff to the troughs or service will suffer. Most distributors will staff somewhere closer to the peaks to ensure they provide customers with great service.
This means distributor locations aren’t at 100 percent productivity all the time. So, there’s not a direct correlation between the CTS averages you calculated and your ability to reduce staff when you “fire” a customer. You can’t lay off the employees who were serving unprofitable customers because the same people serve high-profit customers, too.
When the CTS analysis says you can reduce your workforce by, say, 10 percent, the math doesn’t translate into equivalent, real payroll savings. There’s always a reduction in benefit and, depending on your operations, it could be significant.
It’s Hard to Get New Customers; Why Fire the Ones You’ve Got?
I understand the math around unprofitable customers. The problem is that if you hold out the option to fire them, your team is much more likely to do that than try to save them or replace them.
Don’t let your team get away with justifying having fewer customers unless you’re making a dramatic strategic change, such as exiting a product line or market. Otherwise, your team needs to fix the problem with unprofitable customers by figuring out how to stop losing money with existing accounts or by replacing them with new accounts.
You may need to figure out how to introduce automation, better business processes, new freight policies, minimum order requirements, pricing policies, or any number of other strategies. If that doesn’t work, challenge your team to maintain or grow your number of customers by stealing your competitors’ good accounts to replace the ones you’re shedding.
Firing customers should be an absolute last resort. Don’t do it cavalierly.
Optimization is Not a Growth Strategy
Let’s come back to the statement I heard from the speaker in the UK: “It’s OK to be a smaller company if you are more profitable as a result.”
Who can argue with that? Downsize a bit by shedding costs and you make more money than you did before.
Then what? Unless you want to be the same size in sales in profits, you’re going to have to grow. You might get more out of your current customers for a while, but eventually, you’re going to need to add new accounts.
This means taking customers away from your competitors — exactly as I described above. Why wait until you’ve optimized your business for profitability at a smaller size to do it? Once again, demand that your team makes more from your current customers (more profitable) or replace them with new ones. You have to do it anyway — either before you start cutting or when you’ve already downsized. I say, do it first!
The Many Sins of Shedding Sales
All kinds of bad things happen when a distributor’s revenues decline:
You lose discounts and rebates with suppliers;
Suppliers lose confidence in you and are less likely to support you with marketing funding;
You deleverage off your fixed-cost base;
Salespeople are more likely to leave;
A shrink-first/grow-later strategy means you fire employees and then replace them later as you restart your growth.
The math around these challenges is much more difficult than the CTS calculations you used to justify your revenue-slashing. However, getting this wrong can set your company back by years. What if you lose a strategic supplier because another distributor has a great growth year while you’re optimizing your business? What if that distributor hires your best sales reps and picks off your best customer service personnel?
On the surface, claiming, “It’s OK to be a smaller company if you are more profitable as a result,” makes sense. The problem is that cutting your revenues significantly can turn into a downward spiral due to unintended consequences.
I’m all for making your customers more profitable. In some cases, you may have to fire an account that can’t get there. However, unless your business is out of control and you have a huge profitability problem requiring drastic intervention, don’t let your team think it’s OK to lower your overall customer count or let your revenues decline.
The mandate should be to make accounts more profitable or replace them with more profitable accounts. Simply firing customers sounds bold and brave, but it’s usually a poor substitute for a more thoughtful approach.
Ian Heller is co-founder and chief strategy officer for Distribution Strategy Group. He started his distribution career as a truck unloader at a Grainger branch and rose to vice president of marketing for the company. Ian later served in similar roles at GE Capital, Newark Electronics, Corporate Express and HD Supply. He writes, speaks and consults on technology-driven changes and disruption in the wholesale distribution industry. He can be reached at email@example.com