Merrifield Consulting Group

November 19, 2002 Commentary # 2





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            There is too much daily and weekly economic data that has an impact out of proportion to its real value; it can, at times, even distract us from our more important, private data from our business and industry. The reason we get fooled by the public information trumpeted by the news services is that it all seems so authoritative. If, for example, Sir Greenie (Greenspan has been knighted by the Queen) and three of his Federal Reserve cheerleading governors all state that the economy has only hit a “soft spot” and the fundamentals are sound, isn’t that believable? The first 11 interest rate cuts and non-stop money supply growth haven’t worked for 2+ years, so more of the same will work now? Also, what about the big, long-term, negative trends?


To help you look at the bigger economic picture, start by questioning the growing government deficits, rising trade imbalances, declining business investment, zero savings and record and still growing levels of debt on consumer and corporate balance sheets. Are these good “internals?” Can we borrow from foreigners to spend on non-productive assets (cars and autos come to mind) and get sustainable prosperity? If you want to read a recent survey article on the big picture economics with great graphs and tables, check out the following URL and decide for yourself.

   - an article entitled “Crashmaker” by Jim Puplava.


            Another fascinating article that helps to sort out the short-term gyrations from the long-term trends in the stock market can be found at:

   – an article entitled “Window Pains”

            If you want to understand how under-funded pension plans are going to kill corporate profits, raise taxes and force big consumer savings changes check out this URL:

   – this is a heavy analysis by Stephen Roach entitled “The Asset-Liability Mismatch.


      After reading all of this, should we panic? Maybe not right away. As long as consumers can continue to refinance their homes at below 6% mortgage rates to pay off credit cards and keep shopping until they drop, our economy can muddle along at an average of 1.5% growth rate which is below its productivity capacity rate of 3.5%+. Even the credit card companies are doing their best to keep allowing us to borrow-and-spend our way to prosperity. I received a new credit card offering from a banking giant this past week in the mail. It will allow me to roll over sizable charges on other credit cards and then pay no interest due until March 2004. I’ll bet that offer went to millions.


Some big questions to ask about our debt-fueled, consumption driven economy are:


1.       What will happen when the “subprime borrowers”(the last to be hired, the first to be fired, who have loaded up on debt to buy houses and cars) can’t make their payments? The amount of subprime loans outstanding has doubled to $500B in the past 3 years as some lenders chased high fees and interest rates that can yield five times the profits of conventional loans (less huge eventual write offs!).

2.       There is also $450B of subprime mortgages that could also start defaulting which will hurt the “trade-up” transactional flow in housing. When? What would that mean to builders and all of the distribution channels that feed product into them?

3.       Could we reach a point where paying 4%+ for debt interest to finance an asset that is depreciating 2% to 3% a year? This could be a crushing burden for both consumers and distributors that have a lot of inventory?

1.       When will consumers start saving 8% of their income out of paychecks instead of 0 to 2%, because:

a)      Their retirement funds need replenishing.

b)      They are concerned about unemployment due to the jobs-to-China phenomenon and productivity increases in the US exceeding demand/growth in our economy.

c)       Their house starts to deflate in value as some of the growing number of sellers become desperate to attract the shrinking group of buyers who need to sell their house first before they buy or close on the next one.

2.       Wouldn’t a consumer retrenchment put an economy that is 2/3rds oriented to consumers into a recession? Do you think that the recent stats on declining growth rates for Wal-Mart, Home Depot and the auto companies with triple zero financing suggest the retrenchment is underway?

3.       What’s the big deal about dropping the Fed’s fund rate from 1.75 to 1.25? Consumers get twice the interest rate income as they pay in interest rate costs. The lenders (like retirees) are getting hammered to allow aggressive financing to be targeted at subprime consumers who are already exhausted borrowers.


The final take away from all of this is not to practice wishful thinking and buy the spin from economists who are politically motivated or paid by sellers of stocks, houses, cars, creative financial borrowing services, etc. Look at the big picture trends and realize that the (global) credit bubble and pension gaps are daunting. The resolution of these two big problems will be a 5 to 10 year grinding process. Our businesses will have to become very focused, high-performing, service value-added machines to survive and thrive.




                The channels of distribution that have fed into the building of homes for the past 10 years have had a great run topped off with a refi-powered financial orgy over the past three years. Does what goes up have to come down? Is there really a national housing bubble in spite of the happy talk coming out of all government (political) economists? You can listen to the hype, or you can look at the real data:

1.       The stock prices for both Fannie Mae and Freddie Mac, as well as all public home-building stocks, are declining in the current bear market rally.

2.       Lumber futures have broken through a support level and are continuing to decline.

3.       High-end homes have declined in price by 10% or more over the last quarter in Dallas, Denver, Atlanta, San Jose, Manhattan, my home area, etc.

4.       The rates for: delinquent mortgage payments, mortgage foreclosures and personal bankruptcy (Chapter 13 to try to keep the home) have all risen to new record levels. The subprime area of borrowers is especially high.

5.       The manufactured home industry has already tanked and the largest lender to that sector, Conseco, has already gone into bankruptcy.

6.       Points 4 and 5 hurt the trade-up, transactional flow of housing. If, by example, a builder has a spec house that they are able to get “under contract”, a common contingency is that the prospective buyer can first sell their current house. But, they can’t, because the bottom-up, trade-up buying can’t happen with the bottom going bankrupt.

7.       11%+ of homes are vacant. Why? One reason might be that people who built them can’t sell their old house to then be able to move into the new one.

8.       House appreciation rates have been growing much faster than incomes to afford them. The cost per square foot for housing when compared to rental costs has diverged to a record level.


In the ‘92-on wipeout for new housing construction, the problem was too much supply of speculative building. Could the problem this time around be a shrinking of demand that starts slowly, picks up speed and then continues for a long time because:

1.       Mortgage rates finally bottom and start going back up?

2.       Lenders start to tighten up on the subprime market?

3.       Buyers start to wait for prices to fall further in the high-end market?

4.       Unemployment rates and foreclosures start to erode the bottom-up buy-in and trade-up market?

5.       Deals can’t close until the old house is under contract?

6.       Houses eventually become viewed as consumptive choices that depreciate instead of investments that appreciate? Japanese homes have dropped 50% in value in the past 10 years.


The same supply and demand pattern is happening with commercial office space. In ’92, there was a speculative supply bust, this time around there is a demand recession that continues to grow and confound the experts who don’t see our current economy through a post bubble lens.


The moral of this story? All companies need to downsize, upgrade and refocus on customer value creation using customer profitability applications and forward looking credit analysis work as their guides. In the building channels, more specifically, don’t get stung on trade credit to the marginal, spec builders who will tap out first.




                On November 15th UPS announced an aggressive 4% price increase for their basic air express service which will go into effect Jan 7th. Analysts expect that their forthcoming announcement for increases in their “ancillary services” will be even more aggressive. This price increase is interesting in light of the following facts:

1.       The US is in a general deflation and dis-inflation trend for most goods and services.

2.       UPS’ revenue in the air express segment dropped 7.7% for the quarter ending Sept. 30th versus the prior year, although their total revenue was actually up 1.5% for the quarter with year-over-year profits down 19%.

3.       UPS does not see any imminent revenue growth improvement.


I’ll guess at three of their assumptions:

1)      If costs are going up and our profits are declining, then we just need to increase prices, especially on ancillary services aimed at unprofitable customers.

2)      If business volume is lost to FedEx, Airborne or the USPS, then we will still generate more net profit on a bit smaller volume and our competitors are welcome to take on our marginal losing business to grow both their volume and their losses.

3)      We have identified the 3%+ of all active and potential accounts that will account for 80% of the new profitable growth potential over the next 5 years. We will team focus on landing these accounts on a win-win basis. Our competitors will hopefully be distracted and weakened by the marginal losing accounts that we unsuccessfully try to re-price and re-term to profitable status.


This public announcement by UPS also begs the question: “What is the unrealized, upside pricing power in our company?” The answer will be found on an account-by-account profitability analysis and it will be: A LOT MORE THAN YOU MIGHT THINK! Some readers might quickly point out that this UPS example is unproductive because UPS is in a competitive space with few other competitors that in fact raise prices immediately after UPS does; FedEx announced 3.5% the next day. But, could we then counter challenge (ourselves) by reasoning that within our active customer accounts we are in a space with only one or two other main suppliers at best. And, if a customer is unprofitable due to one or more cost variables, then could we not try to: raise prices, re-organize them to buy less often in greater quantities, change terms and/or add fees that would combine to make them profitable. If they left for another supplier, then couldn’t we re-deploy our energies towards more productive, appreciative and profitable customers or lay off more people expense than gross margin lost. But, we will never know until we honestly measure the opportunity and zero in on the best target accounts.


How to do that? For a quick start, go to and read article # 2.3 entitled “Measure Customer Profitability and Act.” Better yet, request immediately from our “E-Booklet” which is a 45 page word document that has our most recent 11 articles that aren’t on our site. Three of them address the customer profitability management opportunities in great detail. And, best of all, check out the 15 modules that address “How to Grow Profits with Customer Centric (profitability) Strategies” in our video entitled “High Performance Distribution Ideas for All.” The E-booklet will also give your more insight on the video and it lists all of the lower priced resellers. We will spare you the rave reviews from those happy customers that have been using this total transformation toolkit. The video is unconditionally guaranteed for 30 days. If you can’t see enough value in the video kit, then return it.




                The CEO of a strong, regional distribution chain with several hundred employees called me recently looking for ideas on how to continue to pass on the cost of rising health insurance benefits to his employees. His company’s generous program has had premium hikes that have gone up almost 50% in the last couple of years. This year they had to pass these increases on to the employees, in addition to a freeze on wage increases, because of his channel’s on-going contraction. He had orchestrated a thorough educational program for all employees on the facts of medical care in the US and why the company had to pass on the costs. He was still feeling some guilt about it, so he called me.


            In our conversation, I found out that he was also concerned about the level of complacency down the line. There didn’t seem to be enough bottom-up initiatives in trying to improve productivity and profitability. Just too much moping about the wage freezes and rising deductibles and co-pays for health insurance. On balance, he praised the loyalty and experience of his employees, but he wished that he didn’t have to be THE ANSWER MAN for the tough economy’s problems.


            We also agreed that health insurance is a very democratic and tax-free benefit for all and it hits the lowest paid employees the most as a percent of after-tax compensation. We then hatched a gainsharing plan that would address all of his issues. We decided that if we gave every branch (20 in total) the following metrics, which would also be used to rank all branches initially on a disguised, number basis, everyone’s initiative could be sparked. Here are the metrics:


1.       GM$ for the last 12 trailing months divided by the average number of full time equivalent (FTE) employees. This would be a measure of “productivity” or “value-added” per employee. The goal was to figure out ways to get the ratio to go up so that the company could afford future wage increases, health costs and gainsharing bonuses out of premium productivity numbers.

2.       Total non-supplier, non-employee branch expenses per employee. The themes for this metric are: “waste not, want not” and “pay us, not outsiders.” The goal was for every employee to examine every line item expense to figure out ways to reduce those costs in the future. We agreed that a lot of the saved nickels and dimes would be just that, but the symbolic importance of anyone saving money into a pot out of which a target percent would go back to reducing everyone’s health insurance costs was big.

3.       Profit before interest and tax(“PBIT”)/customer stats for A, B, C and D customers. This distributor had already bought into the total customer profitability management assumptions and methods outlined in great detail in both our e-booklet and our “High Performance” videotape. But, he had thought of making the measurable improvements in PBIT/customer into a continuous improvement game amongst all branches with a gainsharing payoff for health benefits first and bonus dollars second for all employees.


In summary, tough economic necessities were this CEO’s mother of invention. He realized that for this next calendar year the same old try harder goal setting and tighter budgeting wasn’t the answer. He needed some out of the box solutions. He needed to the take the negative pushback from his employees on wage freezes and health insurance costs and turn that energy into part of the new solution. He needed a catalyst to get his branch managers to want to watch the “High Performance” videotapes and share them with the troops who would be demanding them to find out how they could be part of solution for their own economic problems.


What will you be doing significantly differently for 2003 considering all that you have read above? Need more ideas? Request our e-booklet for starters. Consider our videotape that cost less from re-sellers than two hours of your accountant or lawyers time, and it is guaranteed. Want more dialogue and commentary? Please feel free to email me ( with your questions, concerns and disagreements. 


Warmest regards,    


Bruce Merrifield