The Real Costs of Operator Deviated Pricing: 1% Plus of Gross Sales

Posted on June 8, 2017 by Paul Wietecha under Paul's Perspective

Aside from ensuring value for the dollars you are spending, there is an even bigger economic story that supports taking action related to operator-deviated pricing right now. As a starting point, your annual savings begins at 1% of gross sales when executing a process to better validate deviated pricing claims [e.g., billbacks]. Consider the following, which is based on our analysis of more than 5 million deviated price claims processed in the past year.

For each increment of $50 million in gross sales:

  • The average manufacturer offers operator discounts on 40% of their overall volume [this includes national accounts, bids and regional or local operator discounts].
  • The industry averages 15% as the depth of the discount between list price and contract or bid price, e.g., a $40 per case average selling price leads to an average operator deviated price of $34 per case.
  • Based on that, the typical manufacturer spends just about $3 million on operator discounts, or, about 6% of gross sales [15% of the 40% of the $50 million].
  • Of those $3 million, some are rebates paid directly to the operator [such as Foodbuy, Premier, ARAMARK, etc.], but, across the industry operator deviated pricing is now 65% of the operator spending pool.
  • That means we are spending roughly $2 million out of every $50 in sales, or 4%, on operator deviated pricing discounts [65% of the $3 million].
  • Based on our analysis of more than 2 million distributor billback claims representing more than $1.5 billion, our data suggest that the error rate on those claims is close to 30%. The overwhelming majority of that error rate is concentrated on the accuracy of the claim rate.
  • That means, rather than claiming $6 on the $34 contract price from this example [with the $40 per case into-stock price] — on average, the claim is $7.80 per case. If that sounds high, keep in mind that any claims made against items that were not specified in the operator agreement or bid each contribute their full value to the statistics. Currently more than 15% of the items claimed against deviated pricing offers were not eligible during the timeframe the claim was made.
  • Based upon that, out of each $2 million spent on operator deviated pricing, the statistics suggest potential ‘over spending’ of $585,000, or just over 1% of the $50 million in gross sales.

 

Now, let’s consider the administrative costs if you want to audit those claims and if you have to take on that challenge without sophisticated technology to help you:

  • The $2 million in claims suggest roughly 2,000 billbacks [or deductions] at an average value of $1,000 each.
  • In a manually-driven validation process, your resources are likely to invest 30 minutes for each claim audited, looking up into-stock prices and confirming the details from the contract or bid you offered.
  • That equates to right around 975 hours, or just over 40 days. Assuming 2,000 ‘available’ hours annually per FTE, that means one half of a full-time person for every $50 million of sales is spent on deviated price validation and reconciliation.
  • Even at a bargain rate of $40,000 per year for that resource, you would have just spent 2% of your operator discounted budget of $2 million on the administration of those prices. You must wonder if the finance folks built that extra 2% into the equation when they determined just how low you would have to go to meet competition for the business at Chet’s Chevron.

 

Here is a final thought: Assume that the math is off by half. Rather than $585,000 from deviations and another $40,000 in resources, it would be ‘only’ slightly more than $300,000 for every $50 million. So, before you conclude that this is just an example of the ‘cost of doing business’, ask yourself this … how many hours did you spend this week in meetings where the decisions you made can earn you $300,000 for every $50 million on the conservative side, with an upside over $600,000?

 

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Continue reading: 3 Ways to Overcome Operator-Deviated Pricing Challenges.