During the last 18 months we have seen about a 40% decrease in lumber commodity prices, a spike in fuel prices and a continual increase in insurance premiums. If we keep the same 25-point margin on a framing package that sold for $5,000 18 months ago and that sells for $3,000 today, the total margin dollars that we would get would fall by $500, to $750 today from $1,250 18 months ago.
In order to continue making an overall profit in such conditions, we either have to lower costs or raise prices. Let's focus on the latter, using this premise:
For example, one remodeling contractor purchases all of his supplies from one of my dealers. The remodeling contractor requires 45 day terms, a sales person on his jobs three times a week, free daily deliveries, complex special-ordered materials, free material take-offs, and multiple material returns per job. The remodeling contractor pays a higher price for the service from the dealer, but has a higher than usual profit margin among his competitors,. The remodeling contractor would have to invest in additional staff and other resources, if it were not for the dealer's high level of service. So, this is a win-win situation for both the customer and dealer.
Another customer of the dealer, a large volume builder, takes full truck loads of materials. The dealer accepts no returns, pays within 10 days of the invoice date, and gives 24-hour notice on a delivery request. Because of the terms and minimal service level, the builder pays a lesser price for materials than the remodeling contractor.
This dealer is typical in that he is constantly providing pricing quotes to his customers and potential customers. At the same time, he must continue to build margins as some of his variable costs such as insurance, fuel, and labor costs have skyrocketed.
The dealer has implemented my pricing strategy and has added two points. He has also measured his pricing accuracy using the pricing accuracy is improving his internal billing efficiency. The challenge now is to build in one more point without tipping off the customers, for a total of three points of extra profit margin.
Here is a play-by-play exercise we implemented with this dealer:
1) I gathered the sales people into the conference room and asked them to rank their customers in sales volume, include the margins.
2) Once a list was compiled, I asked the salespeople what would happen if we raised the margins by one point. How many of those customers would leave for the competition? I received the usual response that there would be "Quite a few."
3) But when I asked the same question with these words: "Last year Profit Construction purchased $100,000 in materials from you. If the same material was delivered at a price of $101,000, would Profit Construction purchase elsewhere? How many of your top customers would leave if this was the case? What about $102,000 or $103,000?" Put this way, I got answers all over the board. But most sales people agreed that by moving from $100,000 to $101,000 in sales, none of their customers will leave. In fact, I found that if we moved to $102,000, many agree that none will leave. Is this not two points?
So, how do we move margins without blatantly changing prices?
Let me illustrate with a simple example. A typical building supply has five price levels, one being the highest and five being the lowest. I often see that dealers will place the high-volume customers on price level five (the lowest) across all departments. Can we not jockey up the prices in departments where they are not purchasing a greater part of their volume or move the customer to price level four or three because of a higher level of required service by the customer?
If a builder purchases 90% of its products in three categories?roofing, lumber, and millwork, say?and 10% in the other departments, if you move up the prices charged by the customer in those other departments by 10%, you achieve an overall margin improvement of one point. If a pricing system has a 10% spread between price levels five and three, move these customers to price level three. And don't be afraid to move them to price level one.
Simple? In theory, sure, but how do you implement this? In most of the software systems used in our industry, price levels are determined by the master customer file. In addition, a matrix can be set up that allows for additional prices by departments. For example, if a customer is on price level one in the customer file the customer will receive that price on all products.
However, if you implement matrix pricing for certain departments , which can be handled by most industry software systems, you can assign a different price level to the customer by a department or a class. Also, if you have many customers, you may be able to assign matrix pricing by customer types. Providing the salesperson with a report showing total sales and margins, broken down by department, will allow the sales managers and salespeople to assign price levels by department.
If you have a builder on price level five, the lowest for all products, then set up a matrix for all departments other than roofing, lumber, and millwork that is 10% higher than the first price level. You will achieve a 1% change in margins.
If you need help with this, please check with your software vendor or feel free to contact me via email at firstname.lastname@example.org.
Now that you have a formula for adding one more point, I am sure that you will also agree that "One Price Does Not Fit All."
For an example of this pricing strategy, please follow the link below.