Tackle the small-order problem now

by D. Bruce Merrifield

Most distributors underestimate that one of their biggest profit-eaters is small orders that cost more to fill than they carry in margin dollars. By addressing the small-order opportunity the right way, the average distributor could double its operating profitability while repositioning its business for more rapid, profitable growth in the years to come. Consider the case of Brian McShane.

Analysis of Brian’s problem
Brian McShane, the CEO of ABC Distribution Company, was concerned in June 2000.^[1] ABC’s profits had been weak through the '90s, but had now turned to losses. Out of necessity, Brian decided to do the analysis step in the “small-order total solution” that a distribution consultant detailed at an industry seminar.

1. Brian ranked his customers by estimated profitability. Twenty percent of his accounts generated 135 percent of his profits. The big losers at the bottom of the report ordered hundreds of money-losing, small orders over the past year. At the top of the report were too few seriously profitable accounts. Losing one of these core accounts would be a disaster, while developing a few more like them would be long-term bliss. However, because everyone was busy taking care of money-losing orders and accounts, there wasn’t enough time or talent to focus proactively on keeping and growing best accounts or cracking target ones.

2. He ranked all of his transactions for the past 12 months by gross margin dollars with cumulative percentage columns. The bottom 40 percent of his transactions accounted for only 5 percent of his annual gross margin dollars, but he guessed they might be costing him 40 percent of his total operating costs to fill.

3. He ranked his eight outside sales reps by average gross margin dollars per transaction in their respective territories. Two of his sales reps appeared to be specialists at getting money-losing, small orders from small customers. Their small-order customers plus others needed to be reassigned to one telemarketing rep. Their few potential bigger customers needed to be reassigned to a star outside rep who could sell bigger orders to bigger customers on a systematic basis, at a profit, against tougher competition. Both of the small order reps were eventually promoted to another company’s payroll.

4. He had his inside sales reps keep a log of how many times they back-ordered small orders and for what types of items and customers. One quick discovery was that if the warehouse could receive all incoming merchandise the same day, then next-day fill rates, average order size, customer satisfaction rate, sales desk productivity and back-ordered, small orders would all improve significantly.

5. He told everyone not to jump to any conclusions until they were fully informed about all of the issues and economics of the opportunity. For starters, they would divide small orders into at least four sub-categories, each of which would receive different treatment:

• profitable customers with average order sizes that occasionally had a small order would be left undisturbed;

• unprofitable customers that ordered far too many small orders would receive target account visits to explore new win-win ways to do business together;

• small customers that only ordered occasional small orders would get increased minimum order sizes, prices and/or handling fees;

• small orders that the company inadvertently generated for a number of reasons would be identified and addressed.

Action steps and results
After the analysis stage, Brian was compelled to act. His company’s life was at stake, but he wasn’t quite sure how to:

1. approach the bigger customers that were abusing the small-order privilege and get them to shape-up or ship-out;

2. write to small customers telling them about new minimum order sizes, pricing and fees for fulfillment and shipping;

3. educate, re-compensate and re-structure his sales force, while adding new modes of proactive selling for the smaller accounts previously assigned to sales reps;

4. get everyone in the company, especially the inside and outside sales reps, to make a comprehensive small-order program work. After all, “what was in it for them?"

Monitor daily transactional activity per employee to know when to lay off the least productive inside sales reps, warehouse fulfillment people and trucks/drivers. Brian would have liked to have taken a gradual approach to the total program in an up market so that any weeding would have been minor. But, the harsh reality of the situation was that the company ship was sinking and Brian had some weak employees who demoralized the harder working team members. Surgery was necessary.

These problems were all solved with good consulting advice. Eight out of 10 big, small-order abusers more than tripled the size of their average orders. The others refused to change and stopped buying, but eventually came back on Brian’s new terms. Lots of little customers screamed about the new terms and about 20 percent switched their losing business to the competition.  But the rest ordered more, less often, at higher prices and fees.

Total transactional activity for ABC dropped 30 percent, but in the short term, total sales and margins dropped by approximately 3 percent. Brian let enough of his least productive people go and added more than $100,000 to the operating line, a good increase for a $9 million durable goods distributor.

The longer-term benefits have been even better. Within nine months (first quarter 2001), sales and profits started to increase with core and target accounts even though the industry was in a recession. Employee morale was sustainably high for several reasons. The drag from laggard employees and permanently pesky, puny customers is gone. When a franchise or target account now needs heroic service from front-line employees, there is enough time to deliver. Everyone is confident that the extra service for better customers will continue to boost both retention and penetration rates, especially at the expense of the competitors that unwittingly provided a new home for the small order customers that left. Good raises have been earned and supported by increasing productivity per person, and annual gross margin dollars per employee have increased by 40 percent over the past 16 months.

Conclusions
Brian’s case illuminates some key points. Big gains require big changes, not incremental ones. Big changes, however, often require big pain. You can minimize pain by having the right success assumptions, good up-front analysis and educated employees committed to following a successful roadmap.

Besides weeding both losing customers and employees to better feed the winners, Brian went open book with his employees. Letting everyone know about company losses could have been unsettling to many. But, a detailed game plan and educational strategy for how things could get much better for all stakeholders turned the employees into the motivated problem-solvers they needed to be.

Are you shaping up or shipping out your losing customers to the unwary competition? Or, are you taking on new, losing-order activity? Are you figuring out how to pay more to better employees now and in the future, or are you getting ready to lose your very best employees when the best employers start to rehire at the end of the current recession? Are you educating all of your employees to be part of the high-performance service solution, or are they part of the problem out of ignorance? For more on these issues you are welcome visit www.merrifield.com and check out the summary notes for the 54 modules in the new video, “High Performance Distribution Ideas for All."

[1] This is a true, but disguised case to protect the guilty.
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