Erase Your Intuition, Automate Effective Trade Rates

Posted on January 15, 2018 by Caitlin Orosz under Trade Spend Topics

In the good old days, most manufacturers offered a common national distribution program for trade. The rates and expenses from those common offers were relatively benign. At the same time, the majority of the operator discounts were managed via signature or custom SKU [more commercial chains] and rebates that paid directly to the operator.

Overall, most manufacturers were spending less than 10% on trade and operator discounts combined.

Over the past 20 years, the volume from national chain operators, group purchasing organizations, school bids and other discounted agreements has grown at a greater rate than the “full list price” [aka, “street volume”] business. Along with that shift, the channel has continued to consolidate. With fewer and more powerful buyers, now, most of the industry volume is represented by the deepest imaginable discounts.

During that same time, the distribution community also consolidated. Similar to the operator business, that consolidation has resulted in fewer corporate distributors who have leveraged their power into the deepest imaginable discounts for their earned income programs.

As you might imagine, the deeply discounted national account operators primarily purchase from the largest of those broadline distributors. As an example, within the non-commercial segments, the top five operator groups [Aramark/Avendra, Sodexo, Compass/Foodbuy, Premier and Novation] purchase primarily from Sysco and US Foods.

The compounding effect of those two trends has driven many manufacturers to reconsider what they can afford.

As the combined discounts are now greater than 15% of revenue, most companies cannot afford to pay each distributor its ‘max’ amount and each operator its ‘max’ amount since those two payouts are against the same case.

One solution is to execute a recapture approach on trade whereby the manufacturer calculates a lower rate against the discounted volume than the rate offered on ‘street’ or full list price cases. This works well when the manufacturer is paying trade via a check as they can then control the final net value. Examples of ‘pay by check’ trade in the industry today are almost exclusively centered on buying groups like Unipro, Golbon, Frosty Acres, etc. Since those groups do not actually purchase, checks are the only option.

95% of trade dollars

Since 2015, more than 95% of the trade dollars paid through major corporate distributors are executed as a deduction or via off invoice. This is true with all of the major players such as Sysco, US Foods, Gordon’s, PFG, and Reinhart. Since they deduct the amount that they believe to be true, successfully executing a recapture strategy is not likely to be effective. Politically, the distributors are loathe to accept recapture policies and their systems rarely handle recapture. This drives a process for re-bill and re-collect that is not effective; most companies are not able to successfully collect on those re-bills.

To determine those earned income or shelter rates that are executed via deduction, decision-makers will factor in the discounted volume when they determine the rate to offer.

To those managers, they’ll ask themselves questions such as the following:

 

  • If US Foods wants us to give them 8% on their purchases … and I believe that probably half of their volume goes to Premier, Novation and Compass/Foodbuy … and we already give those three a whole bunch of money … I suspect that we can only afford 4% or 5% max. Let’s offer them 4%!

 

  • If Reinhart wants 6% … how much can I really afford once I “back out” of all the K-12 school bid cases?

 

  • GFS keeps pushing me for more shelter but I know that we also keep adding chain account and school bid volume through them. What percentage of their total volume can I actually afford to pay full trade on?

 

To address those challenges, most companies take one of several approaches:

 

IntuitionI think it’s 50% … I’ll cut the rate back a little bit. This is what happens 75% of the time in the industry.

Back of the envelopeI’ll ask someone in finance to pull some data and give me a ballpark to work with. This is 20% of the time.

Actually calculate it:  Someone in finance would do this.  They would pull purchases [invoices] and sales [billbacks] and actually calculate the weighted average to arrive upon the “Effective Rate” or “Blended Rate”.

 

The math looks like this:

10%
All-the-time rate I want to offer on full list price business
0%
Rate I want to offer on volume sold to Aramark, Compass, Sodexo, etc.
40%
Percentage of the volume that is sold to those accounts
6%
Blended or effective rate … (40% X 0%) plus (60% X 10%)

 

The Solution: FORGE Blended Rate Functionality

 

Our solution eliminates the manual effort to actually calculate the true effective rate [the third approach listed above] and provide a consistent and repeatable model that clients can leverage. We can help clients eliminate intuition and get rid of the ‘back-of-the-envelope’ methods with blended rate functionality in our TPM application, FORGE. 

 

The real value proposition is that you should be able to pay a true earned income rate on the cases where those fees should make a difference; with the operators who do not have their own contract or discount. Your earned income rate with the discounted volume should be zero. Those customers are going to buy our products anyways [in theory] because it’s “on contract.”

Learn more about how the Blended Rate (Effective Rate) functionality in FORGE can help you make better decisions about foodservice trade dollars and enhance profitability.

 

Blended Rate Demo