Executive Briefings

These Four Risk Mitigation Methods Can Improve the Bottom Line

Analyst Insight: There are a few risk-mitigation methods that can improve the bottom line, and they have been around for some time. They are Product Portfolio Management (PPM), Customer Value Management (CVM), Total-Cost-to-Serve (TCS) and Gross Margin Return on Inventory Investment (GMROII). - Gregory Schlegel, executive-in-residence, Center for Supply Chain Research, Lehigh University

These Four Risk Mitigation Methods Can Improve the Bottom Line

Over the last five years, companies like Aberdeen, PwC's management subsidiary PRTM and other research organizations have been asking the same questions over and over about the use of these methods. Here's a synopsis of the outcomes of their surveys. First, about 56 percent of companies say they have too many products for their resources and ONLY about 10 percent constantly monitor/or stop producing underperforming products/SKUs. There's more. On average, almost 75 percent of respondents have said they plan to increase the number of international customers and will expand their product variations. (Code for SKU Proliferation!) PRTM, back in 2011, gave this synopsis: "Most companies are looking to international customers for future growth, yet very few are prepared for the complexity that results from serving global customers with regionally customized products."

What needs to be done by 2020
First, more education on and templates for PPM, CVM and TCS. The realistic reasons companies don’t exercise these methodologies are just that, including not enough resources, funds and templates to develop a repeatable process. But, here’s the rub. About 20 percent of SKUs generate 80 percent of the profits and contribution, no matter what industry! When you are running a mature S&OP process you should begin the evaluation of SKUs. One way we’ve found to begin the process is to calculate GMROII for every SKU. It’s quite easy. You only need two data points, Gross Profit Margin and Inventory Turnover Rate. All that is needed to begin the dialogue is to “rank” the SKUs in GMROII descending order and talk about the bottom quartile. The same holds true for customers. Second, only 20 percent of customers provide 80 percent of your profit and contribution. Have you ever tried to fire a customer because every SKU you sell loses you money? It’s very emotional! CVM advocates segmenting your customers into four categories — Champions, Demanders, Acquaintances and Losers. You nurture the Champions, grow and reduce costs for the Demanders, grow revenue for the Acquaintances and improve profitability or fire the Losers. Finally, when done, you plot your SKUs and Customers on a 2x2 matrix and begin to develop new, cost-effective delivery approaches for each segment.

Where things are likely to be by 2020
More software companies and consultancies are developing tools and templates to do this for clients. It still may not be a commonplace activity within S&OP processes or supply-chain teams, but because it reduces complexity, reduces costs, improves bottom lines, frees up extra capacity for making higher-margin products and truly is a risk mitigation tactic, we feel it will become more of a quarterly exercise within mature S&OP processes. Why? Because the driving goal of the Stage Three S&OP process is — Profitability!

The Outlook: Beyond 2020

Benefits — 57-percent SKU reduction equated to $7.5m margin improvement, cost-to-serve reduction of 1-2 EBIT points and improved free cash of 1-2 points. In 2014, P&G’s CEO said, “We’re going to create a faster-growing and more profitable company that is far simpler to manage.” They dumped 90 brands representing 10 percent of their revenue. As of June 2016, P&G’s revenue dropped 8 percent, but their EPS increased 283 percent and Free Cash improved by 115 percent, Y-O-Y.

Over the last five years, companies like Aberdeen, PwC's management subsidiary PRTM and other research organizations have been asking the same questions over and over about the use of these methods. Here's a synopsis of the outcomes of their surveys. First, about 56 percent of companies say they have too many products for their resources and ONLY about 10 percent constantly monitor/or stop producing underperforming products/SKUs. There's more. On average, almost 75 percent of respondents have said they plan to increase the number of international customers and will expand their product variations. (Code for SKU Proliferation!) PRTM, back in 2011, gave this synopsis: "Most companies are looking to international customers for future growth, yet very few are prepared for the complexity that results from serving global customers with regionally customized products."

What needs to be done by 2020
First, more education on and templates for PPM, CVM and TCS. The realistic reasons companies don’t exercise these methodologies are just that, including not enough resources, funds and templates to develop a repeatable process. But, here’s the rub. About 20 percent of SKUs generate 80 percent of the profits and contribution, no matter what industry! When you are running a mature S&OP process you should begin the evaluation of SKUs. One way we’ve found to begin the process is to calculate GMROII for every SKU. It’s quite easy. You only need two data points, Gross Profit Margin and Inventory Turnover Rate. All that is needed to begin the dialogue is to “rank” the SKUs in GMROII descending order and talk about the bottom quartile. The same holds true for customers. Second, only 20 percent of customers provide 80 percent of your profit and contribution. Have you ever tried to fire a customer because every SKU you sell loses you money? It’s very emotional! CVM advocates segmenting your customers into four categories — Champions, Demanders, Acquaintances and Losers. You nurture the Champions, grow and reduce costs for the Demanders, grow revenue for the Acquaintances and improve profitability or fire the Losers. Finally, when done, you plot your SKUs and Customers on a 2x2 matrix and begin to develop new, cost-effective delivery approaches for each segment.

Where things are likely to be by 2020
More software companies and consultancies are developing tools and templates to do this for clients. It still may not be a commonplace activity within S&OP processes or supply-chain teams, but because it reduces complexity, reduces costs, improves bottom lines, frees up extra capacity for making higher-margin products and truly is a risk mitigation tactic, we feel it will become more of a quarterly exercise within mature S&OP processes. Why? Because the driving goal of the Stage Three S&OP process is — Profitability!

The Outlook: Beyond 2020

Benefits — 57-percent SKU reduction equated to $7.5m margin improvement, cost-to-serve reduction of 1-2 EBIT points and improved free cash of 1-2 points. In 2014, P&G’s CEO said, “We’re going to create a faster-growing and more profitable company that is far simpler to manage.” They dumped 90 brands representing 10 percent of their revenue. As of June 2016, P&G’s revenue dropped 8 percent, but their EPS increased 283 percent and Free Cash improved by 115 percent, Y-O-Y.

These Four Risk Mitigation Methods Can Improve the Bottom Line