March 10, 2004: Distribution Channel Commentary (DCC) # 61

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THIS WEEK’S TOPICS

  1. HIGH PERFORMANCE PROOF IN THESE COMPANIES’ PROFIT PUDDING.
  2. DVD UPGRADE OFFER FOR THOSE WHO ALREADY OWN THE HP VIDEO.
  3. GOOD ARTICLE ON COMPANY VALUATION CHECKLIST PROCESS.
  4. "BAD ADVICE BRUCE, WE’VE MADE BIG BUCKS ON SPEC BUYS!" (?)
  5. DOES THE SUGAR-HIGH RECOVERY HAVE AN ERODING BASE?
  6. GREAT AMERICAN INNOVATION STORY FOR INSPIRATION.
  7. IBM EXECUTIVE SURVEY – 83% WANT TO INNOVATE FROM THE CORE.
  8. BUT, WHAT’S YOUR CLEAR VALUE PROPOSITION? (ARTICLE)
  9. BEYOND GRAYBAR’S SUCCESS WITH WAREHOUSE AUTOMATION.
  10. NEW, BEST, DISTRIBUTION CHANNEL EZINE MAKES IT A DUET.
  1. HIGH PERFORMANCE PROOF IN THESE COMPANIES PROFIT PUDDING.

The 2003 numbers are starting to come in from early, full-year users of our "High Performance Distribution Ideas for All" profit-power-transformation education system. Here are stories from 2 regional commercial construction contracting supply chain companies and a regional plumbing supply chain.

The commercial supply CEO saw sales drop by 5% in 2002 before he began immersing all of his employees into the ideas and practices detailed within our "High Performance…" (HP) educational system. 2003 promised to be off another 5 to 10% in sales. But, here’s what happened for 2003:

  • Sales declined 3% in a channel that dropped by about 10%, so about 7% of the sales came out of other competitors’ hides.
  • Days outstanding on receivables dropped from 54 to 44 days
  • Inventory turns increased from 10 to 12 turns
  • Profit before interest and tax (PBIT) was up 400%

Any old-fashion, managed-by-the-numbers person should be impressed, but these reported numbers are just happy by-product symptoms of the real stories going on underneath the final numbers. This company went after all of the "customer profitability ranking plays" big time. They found out that some customers were not only big losers due to lots of small orders that cost both parties, but they were slow pay too. Do you know why? It turns out that dis-organized, un-focused companies generate a lot of small orders plus downtime and expediting costs for the customer. These self-inflicted inefficiencies don’t just hurt the supplier, they cause losses for the customer which lead to working capital shortages which lead to chronic slow pay. These customers were priced and termed away to unwary competitors. Then, the supplier’s newfound operational slack was re-deployed toward giving core and target accounts breakthrough levels of service.

What happens when core accounts on average go from giving you 50%+ of their business to 80% and a few key target accounts go from giving you 0 to 20% to 60 to 80% while you drive away 10% of big, losing, deadbeat volume? Sales and profits go up while DOS on receivables drop and inventory turns improve.

This commercial construction supply company also had some huge conversions for big losing ("lead") accounts into solid "gold" ones. One branch’s "biggest account" generated over 2300 transactions in 2002 with a highlight being 8 separate deliveries to one job site in one day. The CEO took his trembling Branch Manager to a summit meeting with the CEO of the big contracting account. After explaining how both firms were getting killed on paperwork costs and back office snafus that often resulted in slow pay on "incorrect" or "missing" invoices, they co-created a new system that consolidated total orders to 238 in 2003. Sales also grew by 20%, because the supplier was now "so much easier to do business with" and the new system boosted both job site and back office paper productivity.

The company is totally fired up about 2004. All branches have "can do" attitudes and momentum, because they aren’t bogged down with lots of losing activity and a number of customers. They believe that they can sell bigger-share-of account, win-win replenishment systems to another round of key target accounts at the expense of competitors that have absorbed the losing activity accounts. (For more on "win-win replenishment systems" see an article of ours at this link: 4_9.asp.)

The plumbing supply chain had 2003 sales that were flat with 2002, but PBIT doubled in a very tough competitive region. Across all of the locations, the CEO thinks the journey is about one-third complete. All of the branch managers have bought into improving basic service excellence and retaining core accounts. There is, however, uneven buy in and follow-through with the idea of segmenting customers and servicing/pricing them differently. He’s determined to broaden, deepen and continually review the "High Performance…" training. He asked about making DVD copies from one of the three videotape-based kits that he had bought, so we co-created the "upgrade/add-on" offer in topic 2 below for all paid in full owners of the HP kit!

    2.    DVD UPGRADE OFFER FOR THOSE WHO ALREADY OWN THE HP VIDEO.

In what amounts to a business model change and bowing to technological trends (DVD usage over the past two years and ease of duplicating), here are our new DVD offerings.

  • Any new buyer of the HP kit can choose to have 6 VHS videotapes or a set of 3 DVD discs in the original kit. If you want both the VHS tapes and the DVDs, there is an additional $100 charge on top of the (reseller’s) normal price.
  • If you have already bought a HP kit, and you would like to buy the new DVD discs, the prices are:

    ---- The first set of DVD discs is $100, and in the same order if you would like to buy more DVD sets, you can buy as many as you would like for $50 per set.

---- If you have already bought a HP kit and you would like to buy more sets of just the videotapes, they will cost $100 for the first set and $50 for every additional set if in the same order.

  • If you would like to buy additional copies of the 275-page, spiral bound "Implementation Guide", then every additional copy will be priced at $40.

This un-bundled, big-discount deal will allow those firms that are trying to make one kit work for too many people and locations to buy whatever they need to spread the instant access of the training materials to where ever and whomever they want. They will hopefully no longer be tempted to illegally duplicate the materials. Do you think that I will make up the lost "book price" margin on volume and more tele-conferencing consulting fees? We will see. Do I have a choice when some clients have called to ask permission to do their own DVD burning from the videotapes? How many have burned them anyway without asking? I could whine about the pirating of intellectual property like the movie and music industry, or I could just change my business model with the times, which is what I’m doing.

The DVD's should be available for shipment within the next 30 days.

    3.    GOOD ARTICLE ON COMPANY VALUATION CHECKLIST PROCESS.

Industrial Distribution magazine has just printed the first of two articles by Bart Basi on "Placing a Value on Your Business". Bart is a long-time acquaintance who has been doing valuations for distribution firms for more years than either of us would want to admit. In this first article that is linked below, Bart details the different reasons for why owners might want to have periodic valuations done and an exhaustive list of the documents and items needed for doing a proper valuation. In the second article, he will explain how to choose an appraiser.

Because every owner’s eventual goal should be to maximize both the value of and the exit/estate planning options possible, this article might be worth a quick review. Here’s the link: http://www.manufacturing.net/ind/article/CA385714?stt=000&pubdate=3%2F1%2F2004.

    4.    "BAD ADVICE BRUCE, WE’VE MADE BIG BUCKS ON SPEC BUYS!" (?)

In last week’s commentary, I offered some guidelines to those distributors that might be seeing huge price increases in their commodity products (#60.2; all past commentaries are accessible in the upper right hand corner of our home page at www.merrifield.com). One client who religiously reads the commentaries as his "check up for the neck up" called to tell me about how much money he has made so far on a big forward buy of steel products. Here are the highlights of the story:

  • After doing his trend analysis, he bought six extra months supply of steel products last November. As a result of this forward buying he has had big inventory appreciation gain based on current replacement costs that are 30 to 50% higher than when he bought the steel products.
  • The steel has been selling faster than they had planned to new customers that have not bought from them before. They have been goosing their margins and prices with "surcharges".
  • Having sold six months worth of products in 4 months, they are now trying to decide how much they should buy while they still can, albeit at 50% higher prices than last November. Will China and all supply chain players continue to forward buy? When will the game stop with everyone holding too much extra supply and then how fast and far will prices drop as everyone works off excess inventory? Who knows?

I think if my client sticks to brokering product to customers that want to forward buy and doesn’t do another round of speculating, stockpiling buying, he won’t get burned on having too much of his own excess inventory when the spec bubble pops. But, the producers and the distributors will all feel some pain on the downside of the peak in prices when they sell dramatically less goods at lower margins with dropping prices in the bubble aftermath. The key to making money in these speculative, forward buying booms is to look at the total math for both sides of the peak. Right now everyone is a genius when all markets are being reflated by central bank money supply creation and government stimulation policies around the world (especially in the US).

If you would like to do some of your own research on how China demand, bottlenecks and speculation are driving commodity and shipping costs much higher for now, here is a link to an excellent article in the New York Times: http://www.nytimes.com/2004/03/05/business/worldbusiness/05ship.html.

Will China continue to pay ever higher prices for both inbound commodities and escalating ship unloading delay costs of 20 to 40 days? The Central party wants to keep growth and employment growing, but they haven’t invested in inbound, raw material handling infrastructure. I guess we will see.

Meanwhile, Asian shipbuilders have seen their order books double to the highest volume since 1973 when we had our last global boom-bust commodity product peak. Will commodity inflation start showing up in finished products here in the US causing interest rates to go up, etc. We will see. Interesting times require extra vigilance, good negotiation skills and flexible business models.

    5.    DOES THE SUGAR-HIGH RECOVERY HAVE AN ERODING BASE?

In the past week’s news, there was some interesting economic data points that I would like to put together concerning the lowering income families in the US. Here are the data points:

  • (3-5) The Cambridge Consumer Credit Index survey reported that: 39% of credit card users are paying off their credit card bills in full. This is down from 43% a year ago. 49% of those who are taking on more debt are doing so because they don’t have enough to pay their credit card bills. This is up from 44% a year ago.
  • (3-5) According to the quarterly federal funds report household debt grew by 10.4% this past year, the biggest gain since 1987. But, the same report said "not to worry", because rising house and stock prices pushed the net worth of Americans past the peak of $43.58 trillion reached in April, 2000 before the stock markets started sliding. Rising home prices allowed Americans to use their homes as piggy banks.
  • (3-8) New Century, a sub-prime lender, announced that their weaker credit customers are still re-financing their homes. Most of their borrowers are going into adjustable-rate mortgages with an average accumulated $20,000 in unsecured debt aside from their mortgage. Their home equity is only 18%. But the average American household has nothing to brag about either. The typical American mortgage holder has $4,400 worth of unsecured debt, and his equity has fallen to 54% from 70% two decades ago.
  • (3-5) The debt isn’t a problem according to the Federal Reserves quarterly "flow of funds" report, because it is more than offset by appreciating stock and home equity assets. The total net worth of Americans rose to a record $43.41 trillion by the end of 2003 which surpassed the record of $43.58 trillion set at the peak of the stock markets in April 2000.
  • (3-5) The Labor Department reported that 21,000 jobs were created in February putting the labor force participation rate at 65.9%, the lowest in 15 years. Wages have grown at a 12-month trailing rate of 2%, and the work-week has held steady at 33.7 hours per week. (So far it has been both a jobless and flat-wage recovery.)
  • (3-3) A survey published Wednesday by the Business Council, a 150- member group of executives, found that while the percentage of chief executives who planned to hire rose, 45% said they will hold payrolls steady and 22 percent predict declines.
  • (3-5) As for small business hiring plans, 13% are planning to hire according to a survey of 567 small firms done by the National Federation of Independent Business trade group.
  • (3-4) The head of the Energy Information Administration, Guy Caruso, told a Senate panel that "many signs are pointing to a tight gasoline market this driving season," repeating the caution about possible shortages from a recent EIA analysis. Nationwide average price for a gallon of unleaded regular gas is $1.709, motorists' club AAA reported Thursday. The record was $1.737 Aug. 30 of last year. California hit a statewide record of $2.178, AAA said, 0.1 cent higher than its previous record set last March 21. Six states were less than a penny from their highs Thursday. "Drive-off gas thefts are up about 500% the past two or three weeks," says Sonja Hubbard, CEO of 358 E-Z Mart Stores based in Texarkana, Texas. "I am always amazed that the consumers we deal with every day, when it costs them another buck for their fill-up, think that's justification to steal."

What questions do these data points raise? How about:

  • Do houses only go up in value? How does the next generation of buyers get a job and a down payment to afford the high prices that the current owners imagine they will get? Don’t property taxes and utility costs rise with appreciating values? How are those paid for without new jobs and raises? What happens when the over-leveraged, new, young and/or less sophisticated home owner gets a surprise: tax hike, utility bill increase, medical problem, job loss, divorce, etc.? Don’t they go bankrupt? Who will buy the foreclosed starter homes? Won’t this erosion at the base of the housing pyramid ripple up the pyramid? What happens if we can’t sell our house, because the guy who wants to trade up into our house can’t sell theirs to the guy beneath them, etc.?
  • If this is a jobless and payless recovery and the Democrats want to make an election issue out of it, couldn’t consumer sentiment shift from borrowing and spending to saving and not spending? What does that do to an economy that is 70% driven by the consumer? What would that in turn do to China’s export economy and infrastructure building bubble which in turn is driving all of the other export-oriented Asian countries?
  • What is the future price of oil? The supply sources are pretty max’ed out, and Iraq doesn’t seem to be the quick new supply source that was envisioned. Demand in both China and India is growing very rapidly. Rising energy prices are a regressive tax on the lowest earning, most indebted US consumers who have bought starter homes the furthest away from urban centers.
  • Why aren't jobs being created by the strong economic growth that we have had since last summer? Productivity growth has been high. Big companies have been outsourcing expensive back-office jobs in big cities to the likes of IBM Global Services which then downsizes the job and the pay; then off-shores some of the remaining jobs to India, etc. Many mature industries have too much capacity, zero to some growth with zero-to-little pricing power, so they have been cutting costs first, then focusing on growing productivity and profitability before trying to pursue new growth. Will things change and pick up? We will see.

What should we do considering the debt exhaustion of the marginal consumer in the US? First, continue to focus on re-defining, re-focusing and reviving our service value proposition with the help of our most profitable core customers. Simple customer profitability ranking reports lead to seven key plays that all distributors can pursue. (For more, see this slide show: Identify_Customer_Niches.pdf)

We can take some pages out of the big company playbooks. They are into outsourcing non-core, high-expense activities to the lower-cost, full-time specialist contractors. Many distributors have outsourced, for example, payroll services, but could some distributors also outsource trucking, warehousing, etc? Here’s an article about a Food Equipment distributor, Edward Don, "intersourcing" web-based payroll AND workforce management needs to Ultimate Software. I’m not personally connected to either company, but web services is a big opportunity area on both the buy and sell side for distributors. Here’s the link: http://www.ultimatesoftware.com/news/press/2004/0225.asp

And, here’s another link to an Ultimate Software "white paper" promotion on "intersourcing" benefits: http://www.ultimatesoftware.com/products/tenreasons.pdf.

Like big companies, we can have personnel productivity (and customer profitability) goals that we should seek to hit before we consider hiring more people. Measure these two key metrics: gross margin $s/employee and PBIT/customer. For more on why, check out this article: 2_16.asp.

Or, be inspired by this objective of Cisco’s. They will consider adding to their 34,000 employees when revenue per employee passes $700,000. In Cisco's fiscal second quarter ended Jan. 24, the amount was $632,000, a 6 percent increase from the first quarter, so their hiring freeze remains in place.

Where should we invest our money? Warren Buffet just weighed in on this question in his 3-6 annual letter to the shareholders of Berkshire-Hathaway. Here’s what the Oracle of Omaha had to say:

  • It [2003] was a terrific year for our insurance business, but the big boost that gave to earnings was largely offset by the pathetically low interest rates we earned on our large holdings of cash equivalents ($36B at year end 2003)"
  • "Our capital is underutilized now...It's a painful condition to be in - but not as painful as doing something stupid,"
  • "We have purchased a number of businesses in recent years, though not enough to fully employ the gusher of cash that has come our way."

The chairman's caution has been largely justified in the past, particularly during the technology bubble in 1999, which was the last time that Berkshire shares underperformed against the S&P 500 and the year after its previous cash peak.

Mr. Buffett also highlighted a number of risks to the US economy that add to last year's warnings on derivatives, mutual funds and corporate governance. In particular, he singled out the weak dollar as a cause for concern and revealed that Berkshire Hathaway had $12B invested in foreign currencies to balance its exposure to the falling greenback. "Prevailing exchange rates will not lead to a material letup in our trade deficit. So whether foreign investors like it or not they will continue to be flooded with dollars," said Mr. Buffett. "The consequences of this are anybody's guess. They could, however, be troublesome - and reach, in fact, well beyond currency markets."

    6.    GREAT AMERICAN INNOVATION STORY FOR INSPIRATION.

If you are depressed by both last week’s data and Mr. Buffet’s bearish outlook, then here is an interesting article and perspective from an Indian-born, American trained (PHD) woman who is now back in Banglore, India despairing about India’s lack of innovative ability. It’s from the 3-7, NY Times entitled: "The Secret of Our Sauce". Here’s the link: http://www.nytimes.com/2004/03/07/opinion/07FRIE.html?hp.

    7.    IBM EXECUTIVE SURVEY - 83% WANT TO INNOVATE FROM THE CORE.

Of the 456 CEOs who would give IBM one-on-one interviews, 80% declared that their primary objective has shifted from cost-cutting to revenue growth. As they reach for growth, however, the CEOs say that their companies are neither responsive enough to changing business conditions or agile enough to pursue new market opportunities. For another few hundred words of the summary on the survey here's the web address: http://www-1.ibm.com/services//bcs/globalstudy.html.

Are you ready to stop cutting costs and start growing (profitably!)? Is your company responsive and agile? The commercial contractor supply chain has become that way by pursuing the seven customer profitability ranking plays in the HP training kit!

    8.    BUT, WHAT’S YOUR CLEAR VALUE PROPOSITION? (ARTICLE)

We shouldn’t really consider going off in new growth directions if we don’t dominate our historic, most-profitable, core customer niche(s) first. Why, after all, should we be high performers in a new game when we can’t do it in our best, old game? As a reality test, can all of your employees explain what your compelling, unique value proposition is (or should ideally be) for what #1 target niche of customers? Can they explain why best total procurement cost from your company to a customer is a total team effort? If you still have outside sales reps being the main contact with the customer and consider their getting last look to meet the price as your edge, then you don’t have one. As food for thought on "value propositions" and "total team value creation" check out these two articles at the valueaddedpartner.org site: http://www.valueaddedpartners.org/articles/articles_ValueProposition.asp. http://www.valueaddedpartners.org/articles/articles_TeamSport.asp.

    9.    BEYOND GRAYBAR’S SUCCESS WITH WAREHOUSE AUTOMATION.

Here is a segment from TED (the electrical distributor) Magazine’s March 5th "Distributor News" section at this link: http://www.tedmag.com/default.asp?pagenumber=30.

"Last year, an issue of Global Logistics & Supply Chain Strategies included a lengthy article on warehouse productivity, including a segment on Graybar and warehouse management systems (WMS). The company began installing the WMS system, "complete with RF technology and barcoding," in 1999, according to the article. The WMS were installed in the company's regional distribution centers or "zone" warehouses, although the article does not specify that.

According to the article, the old paper-intensive, manual system "was rife with errors." In the first year of WMS use, Graybar saw the following results:

  • Receipts per hour increased from 22.28 to 26, an increase of 14.3%;
  • average putaway rate rose 16.2%; and
  • picks rose 31%.

"In some cases, the period from receipt to putaway was slashed by 50%, from seven to 3.5 hours."

Here are my questions/observations:

The productivity stats are nice, but what happened to the error rate per thousand lines picked before and after the WMS implementation? I suspect that they dropped a lot. One client of mine went from about 60 errors/1000 to about 15 with barcoding, but then they went to 1/1000 by putting in voice and picture education capability. Now when a picker zaps the barcode for the location affirmatively, but then gets an error alert on the actual item. A screen will show a picture of what item should be in the space along with a voice description of the item. This allows the warehouse team to immediately correct inventory that was put away wrong and to find the right item to pick. As I looked at the demonstration, I appreciated that their home grown solution would be a great help to severely dyslectic, poor-to-non-reading, high school drop outs who often show up in warehouse type jobs.

The other next level application for those distributors with large, regional, automated warehouses is to consider getting into the re-distribution business for the small, independent cash-n-carry distributors. Sure these guys might have a 5% competitive overlap with some of the outside sales force territory accounts, but that doesn’t have to stop two players from synergizing for the non-competitive business. A variation on this theme is for the largest distribution supplier to a common account base do shared delivery, billing and collecting with small, specialty suppliers to the same account base with a daily cross-docking arrangement that takes advantage of the big guys barcoding capability.

    10.    NEW, BEST, DISTRIBUTION CHANNEL EZINE MAKES IT A DUET.

My good friend and industry colleague, Tom Gale, the editor of the newsletter "Modern Distribution Management" has started a ezine service that serious distribution channel executives should check out. In his first issue, he has taken some of my commentary stuff and added some of his own for a better total effect. 1+1= more than 2. I hope to do the same value-added commentary to his stuff too. To check it out, go to www.mdm.com and follow your nose to the "MDM Advisor".

That’s all for this week!

Bruce

Bruce@merrifield.com

919/933-7474

 

DCC # 61 @ www.merrifield.com