|
However, even modest changes in the terms
of sale can have an extremely negative impact on the financial results
of distributors—both in cash flow and profitability. Everybody in the
supply chain needs to understand how these revised terms work through
the distributor organization.
This report examines the datings/cash discount issue from two different
perspectives:
Impact on Financial Performance—Most suppliers, and even many
distributors themselves, are not fully aware of the extent to which
small changes in the cash discounts and datings offered impact results.
This section will examine how such changes impact the firm.
Working with Suppliers—There must
be specific programs in place to make sure the entire channel is working
together for the best possible financial results for all concerned.
Impact on Financial Performance
The link between changes in supplier terms and overall financial results
is outlined in Exhibit 1. The first column presents results for the
typical AVDA member based upon the latest PROFIT Report. As can be seen
in the exhibit, the typical firm generates sales of $250,000,000, and
produces a pre-tax profit of 2.2% of sales or $5,500,000. The firm pays
its bills in 40 days and receives a 2.0% cash discount on purchases.
The second column of numbers assumes that
the payment period is cut in half, from 40 days to 20 days. The impact,
shown at the very bottom of the column, is to cut accounts payable in
half, from $16,500,000 to only $8,250,000. The effect on profit is
relatively modest as the firm must pay interest on the reduction in
accounts payable. Assuming a 6.0% interest rate, profit only falls by
$495,000.
The real impact is on the firm’s cash position. With less accounts
payable, the firm has less cash. The result is to drive the firm’s cash
position negative to
-$7,525,000. Obviously, the firm would have to use its line of credit to
overcome this situation, something easier said than done today.
The third column of numbers looks at the loss of the cash discount. Here
the relationship is exactly the opposite of what it was for a reduction
in datings. Namely, profit is reduced dramatically, but the firm’s cash
position is unchanged.
For ease of calculation, any changes in inventory levels are ignored and
purchases are assumed to be equal to Cost of Goods Sold. With a loss of
2.0% of purchases, profit plummets from $5,500,000 to $2,500,000, a
decline of 54.5%.
The final column of numbers simply takes the analysis to its logical
conclusion and considers both changes at the same time. Both the firm’s
cash position and its profit level are moved into an untenable position.
AVDA members have historically produced reasonable, but unspectacular
profits. They also have operated on a very modest cash position. This is
because their assets are tied up in inventory and accounts receivable,
not cash.
Distributors need to work very hard to maintain their cash position and
their profitability. Even small changes can erode results very quickly.
At the same time, suppliers must satisfy their own financial
requirements. Clearly, a channel-wide view of the situation is needed.
Working with Suppliers
Any potential change in supplier terms will almost certainly be met with
the same response. Both sides will scream and yell and pronounce that
life is unfair. After that, three specific actions are suggested.
Supplier Education—Suppliers are often accused of not caring
about distributor profitability. In almost all instances such
suggestions are unwarranted. What is true, though, is that the vast
majority of suppliers do not understand distributor profitability. As a
result, many well-intentioned programs may be poorly designed.
If suppliers do not understand distributor financial results, it is at
least partially the fault of distributors themselves. A very open and
honest discussion as to how changes in terms and discount plans affects
financial results is needed. An agreement is probably closer than
everybody thinks.
Commitment to Suppliers—If terms and discounts are going to be
provided by suppliers, then those terms and discounts must be honored by
distributors. Terms of 30 days does not mean 35; it doesn’t even mean
31.
In addition, suppliers that are willing to work with distributors with
regard to their financial position need to be rewarded for doing so. It
is called loyalty.
Helping Suppliers with Their Financial Challenges—Just as
supplier decisions can impact distributors in negative ways,
distributors have the same potential to impact suppliers. Placing fewer,
larger orders helps suppliers tremendously, just as does eliminating
emergency orders, controlling errors, the using electronic data
interchange and a plethora of other factors. Being a good customer never
hurts in financial discussions.
Tensions between suppliers and distributors have always existed and
always will. However, if both sides approach the present situation with
a desire to understand and help the other side improve, such tensions
can be diminished.
Moving Forward
Changes in either datings or cash discounts is not a minor issue for
AVDA members. It is very close to life or death. It is absolutely
essential that firms work with their suppliers in an effort to reach an
accord that satisfies the financial needs of every channel member.
About the Author: Dr. Albert D. Bates is founder and president of
Profit Planning Group, a distribution research firm headquartered in
Boulder, Colorado.
©2008 Profit Planning Group. AVDA has unlimited duplication rights for
this manuscript. Further, members may duplicate this report for their
internal use in any way desired. Duplication by any other organization
in any manner is strictly prohibited.
A Managerial Sidebar: Getting Specific at the Firm Level
Every firm represents a somewhat unique
situation. While the examples in this report can help with the
educational process, more firm-specific information is always valuable.
An Excel file to help firms work through results for their firm has been
posted on the AVDA web site. That file allows AVDA members to make
changes in both datings and cash discount arrangements and see what
happens. The following is an example using the Excel file. The items
enclosed in boxes can be changed. Everything else calculates
automatically.
The Excel file is available at no cost to all AVDA members.
|
|
