For most kitchen/bath dealers, 2014 promises to be a year of increased sales – much welcomed after years of weary hand-to-hand combat to make sales happen. But while an intense focus on generating sales is understandable and justified, most dealers are still missing an equally important opportunity to better their bottom lines: reducing expenses. In my judgment, the two easiest areas on which to wield your cost-cutting scalpel are material costs and personnel salaries.
We’ve all heard the age-old mantra: “Buy low, sell high.” Many dealers strive to follow the second part of the advice, but too few work on the first part – a huge oversight. That’s because the single greatest expense on your Profit & Loss Statement as a percentage of income – usually in the 60-70% range – is your cost of goods sold. Indeed, a 1% reduction in your cost of sales drops completely to your bottom line, increasing your net profits by fully 1%.
The same is not true of a 1% increase in sales. By the time variable costs like commissions and payroll taxes are paid, only a fraction of the 1% falls to the dealer’s bottom line. And when sales increase dramatically in one year – like the 15-20% some dealers reported in 2013 – more human errors are typically made in the planning, ordering, manufacturing, shipping and installation of products, generating lower gross margins. As a result, a 1% sales increase can actually reduce that fraction of 1% to a zero improvement – or even generate a negative impact on the dealer’s net profit.
Buying groups offer one possible option for lowering product costs and increasing profitability.
Imagine that you’re a typical kitchen/bath dealer with sales of $1,000,000, cost of sales at $650,000, gross profits of $350,000, and net profits of $50,000 (after market-rate salaries for you and your staff). You’ve taken the leap of joining a buying group, costing about $2,000 annually (when including conference attendance expenses), and find five preferred vendors in the first year that you can easily switch to. So you shift $100,000 of your purchases to them and collectively save 3% or $3,000 in the process. Furthermore, you earn another 2% in purchase rebates paid. Now compare what your Income Statements (simplified) would look like (see chart above).
That $3,000 addition to your bottom line may not seem like much. But it actually represents a robust 150% return on your $2,000 membership investment.
Now imagine in year two that you switch another $100K in purchases to five more preferred vendors in the group and you convince a friend who is a non-competing kitchen/bath dealer to join the group. This new member follows your lead and picks up five of the same preferred vendors. You buy a total of $200,000 and your friend buys $100,000 and you each save 3%. As a result of this $200,000 increase in purchases, the group now earns on average 2.25% in rebates. That’s how each member-dealer gains additional purchasing leverage: by focusing on a select few preferred vendors and growing their sales within the group, triggering greater rebate percentages.
Repeat the same cycle in year three and the added aggregate purchases help boost the group’s average rebate rate to 2.5%. In year three, your P & L Statement comparison would now look like this (see chart above).
The combined $9,000 improvement in lower material costs (3% on $300,000) and $7,500 in greater rebate dollars (2.5% on $300,000) yields an overall $26,500 positive impact on your bottom line.
Need real life proof of the “Power of One”? During the period of 1995 through 2012, one buying group dealer from suburban Philadelphia, that today does about $1,200,000-$1,300,000 in annual revenue, earned $208,000 in rebates alone.
After the costs of goods sold, the second biggest expense on a dealer’s P & L Statement is personnel salaries. It is true that the quality of the people you hire – in character, skill set and motivation – will always be a cornerstone for success. But how well they are organized, compensated and led will determine the quality of their performance and, therefore, drive the financial performance of your company.
I’ve written previously about the key economic driver for kitchen/bath design firm owners, defining it then – after reviewing some 71 years of kitchen/bath dealer financial statement data – as gross profit dollars/payroll expense. Given this definition, dealers who have payroll installers would have their best financial interests served by spinning them off as subcontractors. Concerns over a lack of scheduling control, leading to a decline in customer service, will be mitigated by employing an effective project manager.
Companies that invite independent kitchen designers to follow up their leads would presumably have a comparable parallel benefit. I don’t favor this business model because dealers rarely can deliver the promised design/consulting experience, regardless of which independent is assigned to the prospect. Over time, this inconsistency diminishes repeat business. And, in my opinion, the motivation is also lacking among independents to build higher sales volume and gross margins that a cohesive and competitive sales force will generate…two key factors that augment the numerator (i.e. gross profit dollars) in this economic driver equation.
My preference is to sell your team, whether they are sales designers or support staff, on the value of market-rate compensation at the lower end of the scale, plus a generous retirement benefit. With people living much longer, and out-of-pocket medical expenses averaging $240,000 today for the typical retirement couple, we are a nation largely unequipped to enjoy a comfortable lifestyle without running out of money. Too many kitchen/bath dealers do not include a retirement expense in their annual budgets. Yet decades of retirement savings, wisely invested, can provide ample funds to meet that objective for team members even with moderate annual incomes.
As business owners, shouldn’t we shoulder that mantle of responsibility and leadership for our employees?
Ken Peterson, CKD, LPBC, is president of the Chapel Hill, NC-based SEN Design Group. For more in-depth information on topics featured in this column, attend a sales or business management seminar in your region conducted by the SEN Design Group and co-produced by the KBDN. Peterson can be reached at 1-800-991-1711 or firstname.lastname@example.org.