Profit is vanity
Assets are Sanity
but Cash is king!
I am not too sure who came up with that phrase but whoever did is spot on. I have previously written about the problem of profit and have seen first hand how a profitable business almost went under due to a cash flow issue.
Understanding the issues related to managing 'by profit' is important as are understanding the benefits.
One of the key benefits of Profit and Loss statements are understanding the business expenses. As we head in to 2015 my question to you is:
In the retail / wholesale sector you will often find department stores with a very high cost to serve. In other words, wholesalers who distribute through the retailers will need to provide the retailer with a high first margin, rebates, marketing funds and potential markdown contribution. These costs potentially erode the wholesalers ability to fund future growth. Passing these costs on to the consumer is difficult as the retailer will want to manage their price points and in a competitive market may not want to pass on wholesaler costs to the consumer. Hence the wholesaler is in the difficult position of managing its ability to generate profit through careful expense management.
However these wholesalers typically distribute through a number of retailers. A cost allocation P&L will allow the business to see which retailer has a higher cost to serve. By understanding the cost to serve the business is able to allocate resources in a manner that generate the most profitable outcome.
Imagine the following scenario:
Customer A generates -2% profit / $10 mil revenue
Customer B generates 4% profit / $3 mil revenue
Customer C generates 15% profit / $1 mil revenue
Product A generates -2% profit / $10 mil revenue
Product B generates 4% profit / $3 mil revenue
Product C generates 15% profit / $1 mil revenue
Knowing this would force you to ask questions such as:
a) How do we make the the $10 mil revenue profitable? i.e. Is it possible to increase the gross margin, what costs can be reduced etc?
b) How do we grow the $1 mil opportunity? etc etc
Obviously this is much easier said (or written) than done but ultimately this is what good businesses do everyday. So back to my question. I'll put it another way. Even if your biggest customer will be expensive to manage in 2015 (the customer has a high cost to serve) will they be more or less profitable for you?