I didn’t appreciate it at the time but many years ago when starting out as a lowly area sales manager for an OEM, i had the luck to fall under the wing of an MD who turned out to be a real positive influence on me, particularly in regard to my approach to the discipline of commercial sales. You see he valued the sales function more than any other function in the business, his favourite comment was always “nothing happens until a sales is made”. He was a product of Proctor & Gamble, probably one of the savviest sales organisations on the planet, and had been formally taught in the FMCG arena. What he taught me about preparation and execution during the sales cycle became my own mantra, and his attention to detail really paid dividends with the onset of the internet. To say he managed a tight ship is a huge understatement, he ruled with an iron rod and would interrogate your pipeline and prospects each week with a seemingly telepathic understanding, immediately homing in on any discrepancy or lack of understanding and grilling you hard if you were not on the ball, i would often leave the meeting several pounds lighter. It was however, his approach to discounting that left its biggest mark on me. He disliked discounting, particularly for no reason, discounting to keep up with the competition was a particularly irksome request he rarely agreed with, and it was during my negotiations to win a very large local government contract that he enlightened me with the following consideration, once all other things have been taken into account.
It’s really easy to discount or put prices up, but before you do, consider the longer term effects that your business will have to grapple with if you do. Pressures on business from a number of directions can force price increases and discounts in equal measure, whether it is overhead or raw materials cost increases or perhaps competitor activity the attached tables help to show you the effects on contribution and the required adjustments in turnover required if you either increase or decrease your prices.
Let me be clear this does not really relate to trade discounts, so let’s suppose you are the proprietor of a supply business, you sell to 3 different types of client;
- Customers who buy only a few items from you periodically
- Customers who buy a lot of items from you regularly
- Direct to the public
You will probably have three buying levels and discount prices accordingly.
Before considering reducing prices or giving aggressive discounts to win new business or when considering increasing prices due to overhead or cost increases, consider the following;
- The attached tables take no account of changes in fixed costs and fixed assets or working capital investment rising from volume increases and therefore shows an ABSOLUTE minimum.
- These tables may not be appropriate when dealing with some retail or food based goods and services.
Increasing prices – click on the link (Increasing Price), the column on the left shows levels of price increase, the row at the top shows present contribution of this product or service in terms of your total business turnover (i will qualify net and gross profit later). So for example if you increase the price of a product or service by 5.00% and its current contribution to the business is 50%, then the most you can afford to drop turnover of that product or service without effecting total contribution to the business is around 9%.
Discounting prices – click on the link (Discounting Price), the column on the left shows levels of price reduction (discount), the row at the top shows present contribution of this product or service in terms of your total business turnover. So for example if you discount a product or service by 5.00% and its current contribution to the business is 50%, then the % by which sales volume must go up to maintain current contribution levels of that product or service is 11%. You can take some of the guess work out these calculations by considering and planning product life cycle and demand.
Gross and net profit
Anyone looking at a companies trading profit and loss accounts will quickly be able to compare results obtained with the results expected. In trading organisations, a lot of scrutiny is paid to how much profit is made, before deducting expenses, for every £1 of sales revenue. So that can be easily seen in the profit calculation, the account in which profit is calculated is split into two sections, one in which gross profit is found (this is the trading account), and the next section in which net profit is calculated (this is the profit and loss part of the statement). Gross profit is the excess of sales revenue over the cost of goods sold. Where the cost of goods sold is greater than the sales revenue then this would be a gross loss. Net profit consists of the gross profit plus any revenue other than that from sales, such as rents received or commissions earned, less the total costs used up during the other than those already included in the cost of goods sold. Where the costs used up exceed the gross profit plus other revenue, the result is said to be a net loss.
In all honesty i used this model for performance management of key staff, for business planning and sometimes during SWOT work preparing 5 year plans and as a personal yard stick for setting annual budgets and targets. Before the onset of the professional account management approach it was a good tool used to flag up a part of the character and critical thinking in staff (useful when your building teams). Those who regularly had to discount heavily to win business rarely had good relations with clients, those who discounted less usually had better client relations in terms of the product/ client bell curve model, as a rule. And in terms of sales management it then assists you, the leader, to home in on areas of personal development with each team member and work with them to be more successful i.e sell more product and service, more profitably, more of the time.
Watch out for my next blog – Who’s got the energy…
NJA Consulting 