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The hidden cost of mass retailing. By Robin Tidd

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15th Oct 2006
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In past articles I have referred to 'cost per lead, cost of conversion, cost of maintaining customer relations and customer performance'.

When an organisation sells regularly or spasmodically to hundreds, even thousands of customers, the financial analysis and management of the sales resource and other costs is complex. Often a business has a mix of a small number of large customers and a large number of medium or small customers. If many customers are worth less than £10,000 per annum, resource management becomes critical. The cost of field sales, expenses, sales admin, telephone contact management and direct mail involving thousands is very much a numbers game. It may appear that sales are going up and the overall gross margin is there, but a small annual gross margin per customer may be wiped out if the cost of winning and servicing customers is not managed. The central issues are:-

  • What are the functions the sales and marketing department are performing, what are their main customer related activities?..... for example (1) prospecting, (2) lead generation, (3) conversion to customer, (4) contact management/Customer Relationship Management (CRM)?
  • What is the best means or medium to perform these various functions?.....for example direct mail, telephone contact, using internal sales, using external sales, face to face or by e-mail, website etc.
  • How efficiently are these functions being performed
  • Where is there scope for improvement?
  • and by far the most fundamental:-

  • What is the effect and the potential for improvement on the bottom line?
  • This article deals with analysis of information and the next article will deal with where to look for improvements.
    Effectively we need to manage this as keenly as we manage procurement, manufacturing or distribution. If the FD can see that the above processes are wasteful in any way, and can guide top management to addressing that waste it will mean the business is gaining in two ways:-

  • Gain through increased net margin, because of reduced sales resource costs on existing levels of customer performance
  • Better use of resource which can be re-deployed to winning entirely new business

It is the FD who is in the best position to analyse this and then provide solid factual scientific guidance

What are the processes that we need to analyse?

Ideally we need to know, as an annual estimated snapshot or from ongoing reporting, information on the following processes or functions:-

  • Capturing records/likely contacts who we will approach for new business
  • Contacting those thousands of records and turning them into 'prospects' or 'leads' which have been 'qualified' as being interested in talking to us about our product. NB a qualified lead could be defined as:-
    • They have the need
    • They have the money
    • They have the intent to buy
    • They have the authority, they are the right person
    • We are not completely ruled out by the opposition
    • They will talk to us
  • Converting by visiting quoting etc so that they become a new regular customer
  • Installing and initial training if appropriate, in any case commencing supply
  • Maintaining the necessary contact and good relationship with them so that we get good sales

What else is important to look at?

Customer groups otherwise known as market sectors are often very important. These sectors are usually described by what type of business they are, but in the example I have today and in thousands of others, size in terms of potential and actual annual turnover is a critical discriminator. If a typical customer has to be found approached converted, trained and nurtured, and still is worth less than £1000 per annum in gross margin, then we had better be efficient in how we do it, or we could completely lose that margin. In addition, we may have fixed annual dales and marketing costs. Theoretically the way to spread such costs thinner is economies of scale, by getting more sales turnover. But if the cost of winning that turnover wipes out most of the gross margin for some customer types, then the model does not work.

An example

I am thinking of an organisation I saw recently related to the automotive aftermarket. They sell machines and consumables to hundreds of relatively small dealers and retail outlets as well as to a small number of sheds and some medium sized retailers. See Figure 1

You can see from Figure 1 that the total net margin is quite tight, but this company is growing fast, opening up 40 or more new accounts every month with its latest 'state of the art' equipment.

See Figure 2


By expressing the customer list and the P&L in customer groups as well as in total it is clear that they have a better gross margin on the small accounts at 42.8%. This is vital information...(you really must look at it)...yet it is not the end of the story. The annual Gross Margin per customer is averaging only £856 even though they are having great success in opening them up. You can be sure that behind this there will be some much lower than £856 per annum and some higher. That figure does not include selling costs and CRM costs, or training and installation costs.
The total annual spend on sales and marketing is a substantial £917,000, nearly 16% of the sales turnover. The company is hard working and well run, particularly in sales and marketing, but like many others could learn a lot from getting under the bonnet and looking at some numbers. What is the cost of what they are doing in sales and marketing and where is the money going?

How do we get the most important information?

It would be nice if this sales and marketing information were available accurately as actual figures on a regular weekly/monthly basis, but not all of it is, so we have to estimate some important things, develop a hypothesis and then fine tune the accuracy of the figures later if they are giving us a message which looks urgent.
The information needed is:-

  1. How are each of the different groups of people below spending their time, and therefore resource cost?:-
  • a. Internal sales
  • b. External sales
  • c. Engineers
  • d. Sales and marketing management
  • What do these people cost us?
  • What is the sales and marketing process from Lead Generation through Quoting to Conversion, Installation and Customer management?
  • What are the figures, the Key Performance Indicators in that process?
  • What else is the business spending money on in sales and marketing?
  • On the issue of time (1), it may be that timesheets are completed, but even if they are not, it is still very meaningful to estimate what activities are undertaken by each person, at what frequency and how long it takes each time. There will always be evidence around to back this up, particularly in the realms of number of customer contacts, visits, successes, quotes, calls made by phone etc. BUT I would recommend asking all of the sales people for their estimate of these activities. Can I stress that it would be ideal if we had factual ongoing information, but four times out of five, if I had insisted on absolutely accurate factual information in order to analyse a situation, I would be out of a job. Figure 4 below shows the results of time estimates for the different groups of people and the cost of a person's day. (2)
    On point (3) above, the main process in this example was discovered to be very similar to many:-

    • Mail out fliers or advertise to get leads
    • Pass responses to sales people by text to check out and arrange visits
    • They visit to sell
    • Quote in person, if successful in getting to the stage of quoting
    • They confirm the quote in writing
    • Follow up by phone (usually)
    • If the sales is successfully converted they arrange for training and installation of a 30 day trial (which is usually successful)
    • They visit once to three time a year and phone three to four times a year to maintain good contact and to give further guidance on the operation of the equipment

    There are other activities in internal sales such as processing quotes, phoning to check out the validity of database records, taking orders for the supply of machines and consumables

    What to measure
    In this case on point (4) above, the most important KPIs for sales and marketing are:-

    • Cost per lead by different methods of lead generation
    • Numbers of leads generated per week
    • Number of visits coming from those leads
    • Time taken to do visits
    • Conversion to Quotes done
    • Success rate in getting trial installations
    • Installations done
    • Returns from unsuccessful installations
    • Cost per day of sales people including their traveling, phone and subsistence expenses

    Figure 3 shows some KPIs for a year for the small accounts
    NB The large and medium accounts are dealt with not by the sales force but by the sales manager and the sales and marketing director

    Notes

    • The figures for time above relate to the sales force and its current use of time and current level of performance extrapolated to a full year. It excludes Sales Top Management and Engineers
    • In addition to the 1954 days above the sales team spends the equivalent of approximately 60 days a year out in the field on looking for leads/records and the equivalent of a further 63 days in sales and marketing meetings, adding up to 2088 days, the working time of 9 people.
    • Sales visits are each 2 hours i.e.1/4 day including travelling
    • Quotes take an hour each back at base or at the sales person's home
    • It has been found that when a sale is made (subject to trial) an extra 2 hours is taken to go through some formalities and briefing
    • This means that
    • Phone calls three times a year but it takes three calls to get through to speak to each customer on average
    • Note that for every 10 visited, 7 will result in a quote, 4 then dropping out after the quote and 3 in a conversion to trial sale
    • Note that 547 new customers were won, each taking 0.25 x 2 to visit =274 days
    • 547 were visited not resulting in a quote and 729 did not buy after being quoted totalling (547+729) x 0.25 = 319 days

    Summary of these figures plus the expense figures

    In the case study there was produced an estimated annual breakdown of all marketing costs including salaries and expenses and these are shown in Figure 4.

    Many costs can be allocated easily to show which customer group and what activity they related to. We are interested in finding out what each part of the process is costing and expressing it as a cost per customer annually, to see how much of the original gross margin per customer is left. (If you have guessed its virtually NIL you are correct, but I will carry on with the analysis). Take a look at the expenses spread across the customer groups first

    The costs of the Top Management and particularly of the Sales Team were allocated to customer group and by function on the basis of the estimated time per annum on each function. We even used the number of visits, quotes and times per to validate the Sales Team's figures. Figure 3 and the notes below it give us much guidance on this. Figure 3 shows the Sales Team days and Figure 4 shows the cost per day of £200.
    This allows a revised Figure 2 to split the marketing costs


    The average margin per customer for the small accounts has gone from £1284k/1500 = £856 per annum to £592k/1500 = £395 per annum.

    However this is somewhat misleading because included in that sales and marketing cost is are significant amounts for winning new customers, which are not costs relating to existing customers. It includes lead generation, visits, quoting installation. We need to re-express those costs more fairly and accurately as follows, again, dealing only with the small customers. Remember we start the year with 1500 and should add 547 during the year if we hit the rates currently showing in the KPIs-

    Finally we have reached the point that shows us the cost of a new customer is £832 to win and then £159 per annum to maintain. Yet we earn only £856 per annum from them, so we do need to hang on to them. There are many leakages in this process, and remember these are forecast performances based on KPI rates being suggested at the moment. The next article will look at what further analysis would be useful and what are the easiest and highest pay-off things which can be done to improve the numbers in reality.

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    By User deleted
    28th Nov 2006 16:20

    Response to Robin Tidd's article
    In my experience of the financial sector, institutions have made understanding their customers a high priority but for many there are still gaps in the information framework. This means that some companies struggle to understand the real value of an individual customer relationship.

    We conducted some research with the Institute of Financial Services that found 77% of respondents believe that there are significant gaps in the ability to measure customer value and 92% of respondents stated that past CRM projects put too much emphasis on sales versus developing long-term value from the customer.

    There’s now a growth in marketing applications which means that an increasing number of large financial enterprises will be investing in marketing resource management (MRM). However, organisations that fail to align MRM initiatives with corporate performance management investments or projects run the risk of creating a new silo of marketing applications that don’t link marketing activities with corporate objectives.

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