What Are Your Profit Moats?
Warren Buffet buys companies with identified “profit moats.” Moats are sustainable sources of profit and free cash flow. Financial reports often don’t reveal profit moats, so you must be able to uncover them for yourself. Why does Buffet like profit moats? Because they help to manage assets and cost centers. As a distributor, you build your moats of profit-power with customers that grant you–on average–a steady stream of profitable orders.
In every business, customer order streams vary widely at being efficient profit generators. A profitable order (versus an unprofitable order) contains more gross margin dollars (GM$s) than cost-to-serve dollars (CTS$s) that your business spends to fulfill the order. Profit (or loss) dollars (P$s) is the remainder.
Hence, the profit equation (PE) is:
GM$s – CTS$s = P$s (or Loss)
How to Tune Order Stream Profitability
You can tune up your order stream profitability by managing the profit equation at multiple levels.
One way to do this is to calculate the PE for every line item event. You can then add each line item PE together to obtain higher-level PE totals. You can determine PEs on many levels, such as orders, customers, customer niches, territories, SKUs, vendors, and even the grand total for gross margin dollars and expense dollars on your yearend financial P&L.
Distributors who apply the profit equation at the line item level typically discover that:
- 70%+ of all line items have negative profit equations
- 60%+ of all orders have negative profit equations
- 20–40% of customers have profitable profit equations and 40%+ have losing profit equations
- A few super-profitable accounts, or tenuous moats, subsidize the many losing accounts
What are the root causes of low and high gross margin dollars within customer order streams? Using Waypoint Analytics’ reporting tools, you can dig deeper by applying 15 different lenses to find:
- Which customers shipping-to locations and departments have too many small-dollar picks and orders (and/or credits, back-orders, delivery costs) at a specific SKU level. Quirky buying habits in these hot spots cause large and unnecessary activity costs for both parties. (For more information, Google: Merrifield + law of reciprocal costs)
- Potential, win-win cost fixes range from 5% to 30%+ of a customer’s annual purchases
Tune Profitability and Build Your Moats of Profit-Power
- Impress and sell customers with their own irrefutable buying statistics
- Customers appreciate offers to reduce their frictional costs (for free at big profit accounts) and receiving credit for the supply-chain solutions
- Increase both parties’ profits via cost reductions and often find and earn more sales
- Become valuably different and better than your competitors, who just shoot prices
LIPA Management 101 Workshop
Why not tune-up the profitability of your order streams from all your big gross margin dollar accounts? Transform big losers and build your moats of profit-power. Increase the rebuy process barriers for competitors and enrich all stakeholders.
To help make it happen at your company, inquire about my workshop, LIPA Management 101 by writing me directly at email@example.com.