One of my favorite opening lines comes from A Tale of Two Cities by Charles Dickens. The novel starts by declaring that it was both the best of times and the worst of times. That’s sort of how this current environment of vendor cost increases feels. There has never been a better time to increase prices. At the same time, there has never been a more difficult time due to the sheer volume of increases, lack of product availability, and uncertainty about the future, as well as hidden increases in the form of increased freight costs.
The best companies are sharpening their cost-recovery strategies, processes, and analytics. They are becoming much more intentional about managing vendor cost increases. They start by forming a team and assigning responsibility and accountability for the outcomes – supported by rigorous strategy, strong analytics, and timely and consistent action.
Here are some of the best practices that we are seeing and recommending.
1. Segment your vendors and product categories.
Which of the increases are temporary versus permanent? In either case, you need to update your system pricing immediately, but, if they are temporary, you need to have a strategy and process for scaling back when the market adjusts. And, it’s not a one size fits all strategy, it should vary based on loyalty and volume.
Consider the relative customer price sensitivity of your various vendor/product groups and specific SKUs. How does that vary by customer for managed accounts with customer-specific or contract pricing?
Next, consider the transparency of the increases. Manufacturers aren’t the only ones experiencing increases in the cost of doing business. This is a good opportunity for distributors to recoup some of their rising costs as well.
2. Segment your customers.
Identify customers that have fixed-net pricing in the system and convert to cost-plus or list less as soon as possible. That way, vendor increases are passed along automatically. Another important distinction is knowing which customers require notification of price changes. Finally, consider restricting overrides for customers with adverse pricing or profitability, specifically with respect to vendors on allocation.
3. Fix your contract pricing.
Don’t forget about your contract pricing where you are locked into fixed pricing for a period of time. First of all, don’t be afraid to ask for a price increase, especially since these are such unusual circumstances. If you truly are locked in, you can go back to the vendor for cost support or you could present the increase as a documented cost savings and take credit for your sacrifice. So many distributors resign themselves to absorbing the entire increase and without getting any credit for it with suppliers and customers.
4. Assess your cost to serve.
This is also a good time to assess the cost to serve your customers. Those who order in dribs and drabs, pay late and then swipe their credit cards, or have excessive returns, for example, should be first in line for these increases.
5. Utilize additional profit levers.
This is also a great time to revamp your policies on minimum order size, freight recovery strategies and pricing overrides. Restricting or limiting these leaks can be very impactful to your bottom line.
Use Vendor Cost Increases to Your Advantage
Unexpected supplier price changes naturally affect your business, but with it comes an opportunity to reassess and improve your cost structure.
If you only maintain your gross margins in an inflationary market, your rising non-product costs (freight, fuel, selling, general and administrative expenses) will reduce your net income, even if you fully pass through vendors’ increases. Distributors that have the process or analytics to implement cost increases unrelated to vendors, will not experience net income decline due to hidden costs. For the non-vendor cost increases, you will likely need to adjust the landed-cost basis of products for pricing purposes.
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