UNDERSTANDING MARGIN LEAKS
Manufacturers
are under tremendous pressure to reduce prices and cut costs in today's
competitive marketplace. A paradox has emerged creating "margin
leaks" for manufacturers.
"Margin
leaks" are those insidious, hidden, intangible costs of inefficiency
that, for reasons that often defy explanation, keep driving up your cost of
doing business and eroding your profits.
The source
of the margin leaks lies between our mass production traditions and the
"build-to-order" business methodologies required to support
customers' demands that they "have it their way."
Current
manufacturing systems and practices have their origins in a premise advanced
by Henry Ford: "You can have it in any color you want, as long as it's
black." The
implication behind Mr. Ford's statement is quite profound: The efficiencies
within the factory that reduce your costs (and your selling price) can't be
achieved if you allow any variation in the products you sell to your
customers.
Can you
imagine Ford Motor Corporation being limited to selling black cars? Of course
not. They sell many diverse models of vehicles in millions of different
configurations yet they are competitive with their rivals.
How can
manufacturers offer great variation in their products and contain costs-an
unthinkable concept for Henry Ford? The answers lie outside current solutions
being employed by manufacturers. Current implementations of methodologies
employed by manufacturers are inadequate to support "build-to-order"
business strategies. A quick examination of four margin leaks provides clear
evidence of the inadequacies.
Margin
Leak #1:
Shipping
More "Specials" Than Standard Orders
Most
"build-to-order" manufacturers make the mistake of creating a
discrete bill of material for each configuration of product that might be
sold. To reduce the documentation workload, Engineering and Marketing meet and
agree to restrict the choices that a customer is permitted to make.
Gardner's
Law concerning "Number of Bills of Material Required to Satisfy Customer
Demand" is "there is a need to
create 'n+1' bills of material, where 'n' is an unknown and very large
number." It's not possible (or practical) to create a bill of
material describing every configuration a customer might want.
"Special"
orders occur whenever a customer has a requirement that falls outside the
scope of the pre-defined configuration choices. When this occurs, people
throughout the organization scramble like mad to (1) determine if the
configuration is technically feasible and (2) create the documentation
Manufacturing needs to build the order.
Your
customers are sophisticated-they are not content with pre-packaged choices.
They do not want to pay for more than they need nor will they be satisfied
with less than what they want. Customers expect manufacturers to accommodate
their need for flexibility and to help them satisfy not only today's needs,
but tomorrow's.
If you are
shipping more "specials" than standard orders, it means that the
business process you use to define allowable configurations is (1) not
representative of the true flexibility of your product and (2) is defined at
too high and discrete a level to satisfy your actual customer demand.
Your
margin leak costs:
-
Disruptive
nature of "specials" creates organizational inefficiency
increasing costs.
-
Lost
selling opportunities when the customer's actual needs differ from
published configurations.
-
Company
creates large, deep bill of material structures that add to company
overhead but do not add real value to the product.
Margin
Leak #2:
Giving
Away Items That the Customer Should Have Purchased Just to Make the
Configuration Work
Manufacturers
of "build-to-order" products often give away items that should have
been purchased because the order has already been accepted. It is too painful
for Sales to go back to the customer and advise that the cables, power
supplies, cabinets, etc., needed to complete the installation were overlooked.
If your
business process doesn't allow you to easily identify your customer's product
requirements before you take an order, you will have this exposure. Further,
if your process doesn't allow you to easily configure add-on (upgrade) orders,
you have additional exposure.
Your margin leak cost:
Products that could have generated revenue are given away.
Margin
Leak #3:
Inability
to Validate A Customers' Requirements
If you
don't have a comprehensive means to validate your company's product offerings
or capabilities against your customer's requirements you are at increased risk
for margin leaks. Without such a mechanism, it often takes longer to validate
requirements than Sales or customers can tolerate.
This
problem is compounded by time zone differences, rapid changes in technologies,
short product life cycles, the need for quick turn-around on orders, etc. As a
result, commitments end up being made that the company cannot fulfill.
Your margin leak costs:
-
Lost
future business due to dissatisfaction created during previous selling
situations.
-
Processing
delays while the company validates customer requests-disruptions create
organizational inefficiency.
Margin
Leak #4:
Increasing
Accounts Receivable Aging Due to Delays In Satisfying Customers
Are you
finding it takes longer to collect your receivables due to problems or delays
in satisfying your customers? This is a common manifestation of problems
related to "build-to-order" products.
Your margin leak cost:
The cost of capital during the collection delay.
How
Much Are the Margin Leaks Costing You?
The answer
varies--cost estimates range between 1-3% of revenues. This estimate is low.
The estimates look only at inefficiencies in the factory, cost of replacing
missing parts, etc.
The costs
estimates do not consider the extra time Sales and Customer Service personnel
invest with customers, lost selling time, additional travel costs, premium
shipping costs, A/R collection delays, and the cost of customer
dissatisfaction.
Solutions
Are Available
Your cost
of plugging the margin leaks is a fraction of their annual cost. Manufacturers
of "build-to-order" products have special business needs not
addressed by conventional processes.
It is
possible to design and implement a comprehensive business methodology to plug
your margin leaks--even in situations where clients believe their problems
can’t be fixed.
Your margin
leaks don't have to be a "cost of doing business."
Dave
Gardner, Founder and Principal of Gardner & Associates Consulting, has
over 30 years experience in the design and implementation of innovative
business process solutions for "start-up" as well as established
companies. He
has extensive experience helping companies implement mass customization
(build-to-order/assemble-to-order), configuration management systems, order
entry systems, and other operations infrastructure. He has held management
positions in Engineering, Manufacturing, Sales, Marketing, and Customer
Service. Dave
joined Tandem Computers in 1979 where he was responsible for Corporate
Documentation Standards for Tandem's highly configurable and expandable
computer systems. 
