Understanding the Technology
Distribution Business
A Guide to Optimizing Partnerships and
Bottom-Line Value
Primer Contents
1
Introduction
2
The Role of the Distributor
3
How the Distributor Business Model Works
4
Margins and Profitability
5
Working Capital
6
Productivity Measures
7
Sustainability Measures
8
Managing Growth
9
How to Sell to Distributors as a Vendor
10
The Value of Distribution to a Vendor
• Five Myths of Distribution
• Nine Things Vendors Do That Make No Sense to Distributors
The Role of the Distributor
Typical Core Offering & Optional Services
Distributors Provide to their Customers
Typical core offering
Typical optional services
•
•
Sourcing of products
•
Back to back ordering
•
Simplified supply logistics
•
Consignment stocking
•
Repackaging
•
One-stop shop – range and availability
Bulk breaking
•
Credit
•
Extended credit, project finance
•
First level technical support (pre-sales)
•
Second level technical support (post sales) –
effectively acting as an outsourced provider of
support
•
Technical training
•
Logistics – delivery
•
Logistics – drop shipment to ultimate customer
•
Order consolidation
•
Project management – coordinating the supply of
several suppliers and shipping to multiple locations
•
Product information collateral
•
Marketing services – effectively acting as an
outsourced provider
Typical Core Offering & Optional Services
Distributors Provide to Vendors
Typical core offering
Typical specialized services
•
Demand generation
Channel recruitment
Channel accounts and database
Marketing fund deployment
Special pricing management
Teleweb outbound and inbound sales
Regular Marketing mailings
“Spiff” sales promotions
Channel conferences
Channel training
Channel financing through credit provision
In-market product management
Front-line technical support
•
•
•
•
•
•
•
•
•
•
•
•
•
Demand generation
•
Channel account management
•
Program management
•
Co-op fund management
•
Special channel financing and credit offerings
•
End-customer marketing and lead generation programs
•
Conference and exhibition services
•
•
•
•
•
Supply fulfilment
Bulk breaking
Outbound Logistics
Reverse logistics
Channel credit risk
Supply fulfilment
•
Consignment stocking
•
Vendor managed inventories
•
Vendor stock warehousing
Market information
Sales out reporting
Channel intelligence
•
•
•
Market information
•
Channel research
•
End-customer research
Outsourced services
•
Outsourced services
•
Warranty management
•
Break-fix operations
•
Second level and post-sales technical support
•
In-market representation
•
Trademark registration and protection
•
•
•
Spectrum of Distributors
Defined by Business Model
High
Value added distribution
Broadline distribution
Margin
Fulfilment distribution
Low
Low
Revenue /Volume
High
Five Myths of Distribution
1. Vendors have to give up margin to the Distributor
2. Distributors are just order takers
3. Retailers and large resellers prefer to deal direct
with vendors
4. Distributors move you one more step away from
market signals
5. The internet/cloud has removed the need for
distributors
How the Distributor Business
Model Works
A Disti Co
Summary Financial Statements
Profit & Loss Account
Balance Sheet
The Distribution Balancing Act
Long-term survival
Value Creation
Sustainability
Gross margin return on working capital %
Gross margin return on inventory investment %
Return on Capital Employed / Return On Invested Capital
Earn
(margin
management)
Profitability
% Gross margin $
% Contribution $
% Net margin $
Working capital
Capital turn X
DSO,DPO,Inventory
Turn
(Asset
management)
Value Levers:
Where Distributors Create & Lose Value
Value Created/
Destroyed
Net Profit
Capital Employed
Operating
Profit
Interest
Net Current Assets
Overheads
Gross Profit
Logistics/Fulfilment
model
Sales
Cost of Sales
Working
Capital
Payables
Back-office
model
Receivables
Inventory
Customer base &
Value proposition
Vendor & product
portfolio and mgt
Demand generation
model
Marketing & sales
strategy
Services portfolio
Cost management
capability
Other current
Assets/
liabilities
Working
Capital
Management
disciplines
Weighted Average
Cost of Capital
Other Assets
& Liabilities
Value Creation Tree for A Disti Co - Year 1
Value creation
-$48
Net Operating
profit after tax
0.2%
$40
-0.2%
Return on
invested capital
2.8%
Operating profit
$56
$1,008
Revenue
$19,316 100%
$4,129
Overheads
$952
5.2%
Cost of Goods
Sold
$18,308 94.8%
4.9%
Cash
Fixed assets
$401
$423
Inventory
$1,408
28
Receivables
$1,897
36
Payables
$1,550
31
Working capital
$1,755
33
WACC
6.20%
Excess cash &
non int liabs
$2,715
Total Assets
0.3%
Gross profit
Invested
capital
$1,414
Cash
$401
Payables
$1,550
Other current
liabilities
$764
Margins & Profitability
Gross Margin %
Gross margin %
Gross margin % =
Sales – Cost of sales
Sales
X 100
Comparison of Gross Margin % and
Gross Margin $ earned on different brands
Margin %
Margin $
500k
20
400k
15
300k
10
200k
5
100k
New
entrant
B
brand
C
brand
Premium
brand
Market
Leader
Example of Blended Margin Calculation
Product
Sales
price
Cost
price
Gross
margin
Gross
profit/
unit
Volume
Sales
revenue
Gross
profit
A
$500
$450
10.0%
$50
100
$50,000
$5,000
B
$400
$352
12.0%
$48
50
$20,000
$2,400
C
$350
$322
8.0%
$28
200
$70,000
$5,600
D
$300
$279
7.0%
$21
500
$150,000
$10,500
E
$180
$168
7.0%
$12
950
$171,000
$11,400
$461,000
$34,900
Total
7.6%
Contribution Margin %
Contribution margin %
Contribution margin % =
Sales – Cost of sales – Variable costs
Sales
X 100
Contribution Margin %
Customer
Gross Margin
Marketing driven costs
Sales driven costs
Logistics driven costs
Inventory driven costs
Transaction driven costs
Finance driven costs
Customer
Contribution
Example Contribution Statement
Turnover
- C.O.S I
=Gross Profit I
Customer bonus
Cust. Cash disc.
Int. on customers
- C.O.S. II
= Gross Profit II
- Int. on suppliers
- Stock depreciation
- C.O.S. III
= Gross profit III
-
175,149
166,651
8,499
184
783
979
168,596
6,553
1,512
379
166,705
8,444
Costs
- Logistics
- Purchasing
- Production
= Contribution I
- Marketing
Marketing costs
Marketing income
= Contribution II
- Sales
- Bookkeeping
- Organisation
- EDP
- Personnel
- Internal admin
= Contribution III
1,319
890
1,473
4,762
-
-
343
705
1,048
5,105
1,657
62
31
152
170
222
2,811
Example Customer Profitability Analysis
Turnover
156,115
Cost of Goods Sold
145,194
Gross Profit
Transport costs
Picking & packing
Cost of financing receivable
Rebates given
Commisssons paid
Other variable costs
Net Profit
5,878
3.8%
4,266
2.7%
2,310
1.5%
1,203
1,013
1,354
545
216
1,613
Contribution Profit 2
Indirect costs allocation
7.0%
712
Contribution Profit 1
Direct cost allocation
10,921
1,955
Operating & Net Margin %
Operating margin %
Sales – Cost of sales – Overhead costs
Operating margin % =
X 100
Sales
Net margin %
Sales – Cost of sales – Overhead costs - Interest
Net margin % =
Sales
X 100
Working Capital
The Working Capital Cycle
Purchase products
Purchase on supplier
credit terms – pay cash
when required
Sell on customer credit
terms – collect cash
when dunned
eg 43 days DSO
Working capital
eg 34 days
eg 46 days DPO
Store/warehouse
products
Sell products
Hold sufficient stock to cope with
fluctuations in demand & to cover
supplier order-to-delivery time
eg 31 days DIO
Days Payable Outstanding (DPO)
Days Payable Outstanding (DPO)
DPO =
Accounts payable
Cost of Sales
X 365 days
Inventory Days (DIO)
Inventory days (DIO)
DIO =
Inventory
Cost of Sales
X 365 days
Days Sales Outstanding (DSO)
Days Sales Outstanding (DSO)
DSO =
Accounts receivable
Sales
X 365 days
Working Capital Turn
Working capital turn
Working capital turn =
365 days
Working capital days
Example Working Capital Profiles
Working
capital
Starting profile
Days
$ value
Improved profile
Days
$ value
DIO
40
2.08m
35
1.82m
DSO
45
2.47m
40
2.19m
DPO
-25
-1.30m
-30
-1.56m
60
$3.25m
45
$2.45m
WC days
WC turn
6 times per year
8 times per year
Example Working Capital Profiles
Working Capital
Component
Days
Starting Point
Days
Value $
Improved profile
Days
Value $
Improvements
Days
Value $
Inventory
DIO
40
2.08m
35
1.82m
-5
0.26m
Receivables
DSO
45
2.47m
40
2.19m
-5
0.28m
Payables
DPO
-25
-1.30m
-30
-1.56m
-5
0.26m
60
3.25m
45
2.45m
-15
0.8m
WC Days
WC Turn
6 times a year
8 times a year
EXTRA
CASH TO
BUY
MORE
PRODUCT
!
Productivity Measures
Gross Margin Return On
Inventory Investment (GMROII)
Gross Margin Return on Inventory Investment (GMROII)
GMROII =
Gross profit
Inventory
=
Gross profit
Sales
“Earn”
X
X
Sales
Inventory
“Turn”
Contribution Margin Return On
Inventory Investment (CMROII)
Contribution Margin Return on Inventory Investment (CMROII)
CMROII =
Contribution profit
Inventory
=
Contribution profit
Sales
“Earn”
X
X
Sales
Inventory
“Turn”
Product Portfolio Profiled in Terms of
“Earn” and “Turn” Characteristics
Contribution margin %
20
Sleepers
Winners
18
16
14
12
10
Losers
8
Traffic builders
6
4
2
0
0
100,000
Extracted from VIA case study
200,000
300,000
Volume $
400,000
500,000
600,000
Gross Margin Return On
Working Capital (GMROWC)
Gross Margin Return on Working Capital (GMROWC)
GMROWC =
Gross profit
Working capital
=
Gross profit
Sales
X
Sales
Working capital
Working capital = Inventory + Accounts receivable – Accounts payable
Contribution Margin Return On
Working Capital (CMROWC)
Contribution Margin Return on Working Capital (CMROWC)
CMROWC =
Contribution profit
Working capital
=
Contribution profit
Sales
X
Sales
Working capital
Sustainability Measures
Return On Net Assets (RONA)
Return on Net Assets (RONA)
RONA =
Operating profit
Cash + Working Capital + Fixed Assets
Return On Capital Employed (ROCE)
Return on Capital Employed (ROCE)
ROCE =
Net Operating Profit After Tax
Total assets – Non-interest bearing liabilities
Return On Invested Capital (ROIC)
Return on Invested Capital (ROIC)
ROIC =
=
Operating profit after tax
Invested Capital
Net Profit after tax + Interest
Total assets – excess cash – non-interested bearing current liabilities
Value Creation (VC)
Value Creation (VC)
VC = Operating profit after tax – (Invested Capital X WACC)
Different Measures for Different
Stakeholders
Measure
Used for
Used by
Stock Price/EPS Valuing the business & evaluating future prospects
Current &
prospective
stockholders
Value Creation
&
ROCE
Assessing the performance of the business as an investment
Investors
RONA
Assessing the operational performance of a Business Unit,
Subsidiary or Division (which has a discrete set of Assets)
Senior Management
ROIC
CMROWC
*All metrics
More precise measure for setting targets and incentives: focuses
on the operating components of business mode, and on relevant
portion of shareholders funds
When correctly scoped*, should include all aspects of
performance which a vendor can influence in their contribution to
the ROIC
Are closely linked and can often be calculated in different ways from those set out here
Should hold people accountable for those parts of the business model which they can influence
Senior & operational
Management
Operational /Product
Managers; Account
Managers
A Disti Co Example of How Business
Model Changes Impact Value Creation
Value creation
Year 2
Year 1
Year 2
Year 1
Net Operating
profit after tax
$78
0.4%
$40
0.2%
$2
-$48
Return on
invested capital
6.4%
2.8%
Operating profit
Year 2
Year 1
$110
$56
Year 2 $1,090
Year 1 $1,008
Revenue
Year 2
Year 1
$21,248
$19,316
100%
100%
$4,313
$4,129
0.3%
5.1%
5.2%
Overheads
Cash
$980
$952
$376
$401
4.6%
4.9%
Cost of Goods
Sold
$20,158 94.9%
$18,308 94.8%
Fixed assets
$434
$423
Inventory
$1,492
$1,408
$2,010
$1,897
27
28
35
36
Payables
Year 2
Year 1
$1,814
$1,550
33
31
Working capital
Year 2
Year 1
$1,689
$1,755
6.20%
6.20%
Cash
$376
$401
Payables
Receivables
Year 2
Year 1
WACC
Excess cash &
non int liabs
$3,092
$2,715
Total Assets
0.5%
Gross profit
Invested
capital
$1,221
$1,414
29
33
$1,814
$1,550
Other current
liabilities
$902
$764
Managing Growth
Potential Growth Capacity
Potential Growth Capacity %
Potential growth capacity % = Net Margin after tax % X Working Capital Turn
Profile of Contribution Margin and Fixed
Costs as Sales Increase
Sales
$
Net losses
Contribution after
variable costs
Fixed costs
Net profits
Volume (Units)
Profile of Contribution Margin & Fixed
Costs with Delayed Investment
Sales
$
Net losses
Contribution after
variable costs
Fixed costs
Net profits
Volume (Units)
Potential Growth Capacity
Potential Growth Capacity %
Potential growth capacity % = Net Margin after tax % X Working Capital Turn
Managing Growth
Vendor Gross Profit Contribution to
Covering a Distributor’s Fixed Costs
5,000,000
Variable
costs
4,500,000
4,000,000
3,500,000
3,000,000
Fixed
costs
2,500,000
2,000,000
1,500,000
1,000,000
500,000
ABC Co costs
Gross profit on Supplier
Example of Impact on A Disti Co’s Business
of Adding a Product Line
Value creation
Year 2
Year 1
Net Operating
profit after tax
Year 2
$78
0.4%
Year 1
$40
0.2%
$2
-$48
Return on
invested capital
6.4%
2.8%
Operating profit
Year 2
Year 1
$110
$56
Year 2 $1,090
Year 1 $1,008
Revenue
Year 2
Year 1
$21,248 100%
$19,316 100%
5.1%
5.2%
$4,313
$4,129
Cost of Goods
Sold
$20,157 94.9%
$18,308 94.8%
Overheads
Cash
Fixed assets
$981
$952
$376
$401
$434
$423
4.6%
4.9%
Inventory
$1,492
$1,408
27
28
Receivables
Year 2
Year 1
$2,011
$1,897
GMROII
Year 2
Year 1
73%
72%
GMROWC
Year 2
Year 1
65%
57%
35
36
Payables
$1,814
$1,550
33
31
Working capital
$1,690
$1,755
29
33
WACC
6.20%
6.20%
Excess cash &
non int liabs
$3,092
$2,715
Total Assets
0.5%
0.3%
Gross profit
Invested
capital
$1,222
$1,414
Cash
$376
$401
Payables
$1,814
$1,550
Other current
liabilities
$902
$764
Value of Distribution
Value of distribution to the vendor
Risk minimisation
Increased market
access
Accelerated time
to market
Economic
efficiencies
Net Profit after tax
Total assets – Non-interest bearing liabilities
Reduced working
capital
= ROCE  Stock price
Substantial
Improvement
Specialist services required by different channels
Value of distribution to the reseller
Enable end customer focus
One-stop
shopping
Outsourced marketing &
logistical activities
Net Profit after tax
Total assets – Non-interest bearing liabilities
Reduced inventories &
Increased credit
TALC advice &
services
= ROCE  Business
value
Substantial
Improvement
Specialist services required by different end customer segments
Nine Things Vendors Do That Make No
Sense to Distributors
1.
2.
3.
4.
5.
6.
7.
8.
9.
Variable cost discounts by major brands
Constantly change the personnel managing the relationships
Keep fiddling with the rules for “pay for results” programs
Set Ts and Cs for the whole business that do not recognize
the different business models involved in reaching
consumer, SMB and Enterprise
SKU proliferation
Set pan-European Ts & Cs
Appoint too many distributors
Promote too many deals
Appoint account managers that don’t understand the
Distribution business model