Many foodservice manufacturers are struggling to gain control over the pricing and allowances offered to group purchasing organizations [GPO] without placing undue risk against the volume these arrangements represent.
The need for control continues to increase as more of these organizations extend their discounts to hundreds, if not thousands, of locations that were not originally assumed to be eligible.
Historically, these offers were isolated to large non-commercial organizations such as ARAMARK and Sodexo, where unit-level compliance was relatively under control.
Within the past 5-10 years, the convenience of blanket allowances has gained traction with commercial segments. Today, it is common to find aggressive deviated price offers for Premier, Foodbuy and Avendra right alongside offers such as ‘State of Florida Schools’, ‘Café’s of the Pacific Northwest’ and ‘Diners of Metro New York’. My personal favorite is ‘RJ’s Restaurants’, where RJ was the initials of the Regional Sales Manager.
The point is that the definition of the locations intended to receive a discount has become too subjective and arbitrary.
With a loose definition and poor control of location eligibility, one industry executive noted recently, ‘We have Premier rebates being passed along to Bowling Alley’s and gas stations’.
The increase in extension to incremental locations represents a call to action relative to control:
- The economics of the original offer did not contemplate the extension to locations that have historically contributed higher margin volumes as ‘street business’. The continued erosion of pure list price business is reducing the overall contribution of the business and increasing pressure to deliver the company’s operating budget.
- Distributors who have access to those discounts are using them to their advantage in gaining business from distributors who do not. Those distributors who are on the losing end of the equation are left to either [a] cry foul based upon restraint of trade, the Clayton Act and/or Robinson-Patman; [b] request their own ‘private’ deviated pricing offers for those same locations to effectively compete; or, [c] both. Ultimately, the manufacturer is stuck spending more money and taking on additional administration.
- Across multiple points of distribution, volume from many locations is contributing to rebates against more than one offer [e.g., the infamous double, triple and quadruple dip scenarios]. The result is that the economic appeal of these allowances is reduced as the dollars invested are spread across fewer net actual cases than intended.
Given the volume involved, it is not realistic to assume you can walk away from these opportunities or dramatically reduce their allowances to control the risks.
7 common sense actions you can take now to build more control behind GPO offers:
- Segment the accounts: Consider segmenting these accounts along the lines of something like ‘Controlled’ and ‘Open’. Controlled accounts are eligible for tactics such as deviated pricing and more aggressive allowances. ‘Open’ accounts would be viewed as a greater risk relative to extension to ineligible locations and trade flow politics. A set of criteria can be defined and given a weighted value that would provide for consistent evaluation of each account and establish the rules of engagement for each type defined. The following are starter ideas for criteria you can use to begin segmenting these opportunities:
Purchasing Influence: Does the target organization influence purchasing at the location level? In other words, is there evidence that the organization takes actions that lead the members to purchase any given product based on their recommendation, or, do they merely publish lists of items and potential allowances? Within the segmentation process, organizations that offensively influence purchasing would score higher and be eligible for more aggressive offers.
Specification or Shopping List: Does the target organization select or recommend suppliers? For some of these organizations, the reality of their ‘support’ for your product line is that it appears alongside all your competitors inside a ‘shopping list’ of items with a rebate attached.
Official Membership: Is the target organization able to provide an official list of the locations that are members? Does your agreement with them specifically limit the offer to only eligible locations where ‘eligible locations’ can be defined in a discrete list? Organizations who can provide an official membership list should receive a higher value in the segmentation exercise.
Distribution Compliance: Does the target organization actively participate in monitoring and insuring compliance with the membership list? Ideally, the purchasing organization would issue their official membership list along with their policy for eligibility to their distributors. At minimum, they should be willing to share the list and their policy with your organization so that you can disburse the information to the distribution community. If they truly are acting on behalf of their members, then, it is logical that they would want to protect the benefits of their purchasing leverage for their members.
- Create a policy on deviated pricing and direct rebates: Working within your segmentation exercise, you should define which type of organization is eligible to receive deviated pricing and rebates paid directly to the organization. The underlying assumption is that deviated pricing mechanics, when abused, drive political issues in the market if not controlled. If you agree with that assumption, then, your policy would limit the availability of deviated pricing to only those accounts that qualify as controlled. At the same time, aggressive rebates paid directly to the organization also need to be accounted for. These offers tend to provide an economic incentive for the organization to ‘count’ any location as a member. With that mind, you could limit the size of the rebate rates you are comfortable with based upon the segmentation of ‘Controlled’ and ‘Open’.
- Define rules of engagement for groups of convenience: Define the circumstances under which you will authorize ‘blanket’ offers and generic groupings such as ‘All Diners’ or ‘All Hunting Lodges’. Purely for administrative convenience, many organizations offer these today and will continue to do so going forward. At best, these provide some level of purchasing insulation, assuming the allowances ever reach the locations they are targeting. However, you should expect they will be passed along to many locations. To mitigate the risk of trade flow politics, you should limit these offers to only those market segments where the opportunity truly merits a discount. To protect your own income, you should require executive review of more aggressive rates that increase the risk of subsidizing distribution margins with existing business.
- Ask for an official list: Group purchasing organizations, by definition, ought to be able to provide a list of their members under the assumption that the members have in some way ‘joined’ to gain some benefit. The official membership list can then be disbursed to the distributors who are participating and should act as an audit point when claims are made against the offer. Logically, if the organization cannot, or will not, provide an official list it would be hard to rationalize a classification that would merit an aggressive incentive package.
- Require the membership ID in the Proof-Of-Delivery: This is an advanced process step, but, would be reasonable if the rates you are offering were aggressive. The distributors who are delivering to the members of the organization should be able to provide the membership ID within the POD [Proof of Delivery] package for audit purposes. If the distributors are not tracking these members based upon their official membership, then, it would be more difficult to agree to an aggressive price or allowance.
- Conduct monthly audits: Auditing each location, by address, city, state and even zip code, can be resource-intense and costly. Before investing too heavily in that process, consider auditing the top 10 [or whatever audit size your resources can reasonably manage] claims by dollar amount. If you are auditing the headquarter claim by a purchasing organization, a spot audit of the greatest dollar values can be effective. Ask your audit team to recap their findings relative to location and items for 2 or 3 months. Based on that initial high level audit, you can then project the potential overall liability from a more rigorous audit.
- Reserve the right to adjust payments: Your agreements with all purchasing organizations should reserve your right to adjust future payments to account for allowances that were paid against ineligible locations and items. For those programs that offer both a direct headquarter rebate along with a deviated price or rebate settled through the distributor, consider a clause that would reserve your right to adjust improper claims deducted by the distributors. If one goal is to motivate the purchasing organization to play a more active role in compliance, then, penalizing the direct rebate should be an effective mechanic.
This is not an issue that will be resolved quickly or without an investment in time and attention. It’s an issue that is not going away any time soon. The challenge at hand lies in defining your business rules and processes for GPO incentives.
Gary Karp from Pentallect, Inc. believes the industry may be entering a new era, stating:
‘As if trade spending levels and trade spending administration weren’t big enough challenges already, along comes ‘Generation II’ of GPOs. One has to question if the foodservice business system has arrived at the starting line of a ’Tipping Point’? Is purchasing leverage and control of ‘push’ operator access and compliance starting to shift from distributors to GPOs? In any case, the business system has clearly gotten, and will likely remain, more complex. I may be stating the obvious but, tightening up your GPO specific strategies, policies and practices have become even more critical to keeping trade spending from spiraling out of control. Where have you drawn the lines?’
Beyond defining your own rules of engagement, you should also consider contacting Gary. He has a great deal of expertise and is actively engaged with several organizations in this area. You can email Gary directly at email@example.com.
You can read previous entries on additional industry subjects and related issues on our blog home page.