Assess properly by segmenting customers, calculating GMROI for each
Manufacturers unanimously seek to differentiate their products and services to satisfy their customers. But they often lose market share and suffer margin erosion by failing to have a robust customer strategy and operating model. For many, it might seem like a simple matter of improving communication with customers through an ongoing understanding of the “voice of the customer,” rather than simply fulfilling customer needs. But a high-performing manufacturer has a customer strategy and supporting operating model that is driven by an analysis of customer and product top-line revenue, gross margins, the return on invested capital, the growth potential for each combination of customer and product, and differences in this data by channel — like B2B, Direct-to Consumer, Wholesaler or Distributor.
“Many manufacturers lack an adequate customer strategy because they don’t think strategically about growth or they don’t perform the analysis to inform the necessary changes to the operating model,” said Jonathan Eaton, Grant Thornton Principal, Growth Advisory Services. “They don't think about what the customers’ future needs are and how to differentiate the products they offer or how that is accretive to their own growth strategy.”
There can be many reasons for that complacency, but past growth and success can sometimes incentivize maintaining processes that were in place during that growth beyond their period of usefulness. Then, when new economic, supply chain or competitive obstacles present themselves, companies fail to interpret the impact and required improvements necessary to adapt.
The keys to implementing a winning customer strategy and a supporting operating model, Eaton said, are for a manufacturer to:
- Segment customers and products in aggregate and by channel based on in-depth data analytics.
- Determine the gross margin return on investment (GMROI) for each product.
- Utilize the data to establish variable pricing models and order fulfillment logic to best serve customers and maximize financial performance and growth.
But knowing and doing are two different matters, so it’s useful to examine each of these concepts to determine how to assess, measure and act on them properly.
Apportionments and margins
Segmentation: Differentiating your customers
Anyone who has traveled by air enough times knows the various upgrades, price savings and other manner of preferential treatments one can quickly “earn” on new flights. Airlines routinely identify and reward frequent users of their services to incentivize brand loyalty. This “identification” of customers through the shared characteristic of frequent use is a very simple example of customer segmentation. Eaton said many manufacturers struggle to understand the importance of segmenting their customers by shared characteristics as an essential first step.
“Customer segmentation in manufacturing asks how we look at the combination of products that a company sells and the customers the company sells to … and identifies those relationships or combinations that are most meaningful, most profitable, and most significant to the long-term sustainability of the company.”
“Customer segmentation in manufacturing asks how we look at the combination of products that a company sells and the customers the company sells to, in channels through which they sell, and identifies those relationships or combinations that are most meaningful, most profitable, and most significant to the long-term sustainability of the company,” Eaton said.
It all starts with data, and when performed correctly and thoroughly, a manufacturer examines purchasing patterns and assessments of the shared characteristics such as total revenue, unit volume, order frequency, sales channel, geography, cost to serve and gross margin. But it also means building relationships with your customers, listening to them and trying to understand their future needs so you can meet them successfully and profitably. The product of that investigation, which must be ongoing, is used to determine which customers are alike and, as a result, which ones are most important to long-term growth and success.
Once a company segments its customers and assesses their characteristics, the next step is to determine how to serve them differently, price differently, or contract differently.
Some production decisions can hinge on these choices, including which products are make-to-stock versus make-to-order and whether that decision varies by customer segment, or how much manufacturing work is in-house versus outsourced to contract manufacturers. This can be influenced by the presence of private equity, Eaton said, since many private equity firms prefer high-margin and asset-light portfolio companies where large investments in owned assets can be avoided along with the maintenance headaches that sometimes follow.
“There are many manufacturers, especially in the mid-market range, who utilize an extensive network of contract manufacturers in an effort to be asset-light. The right strategy will vary by manufacturer,” Eaton added. As Kelly Schindler, National Managing Principal for Manufacturing, observes, “Contract manufacturers can also be the cause for delays or quality issues, so it's imperative they share the same goals and vision as the manufacturer.”
GMROI: Understanding your products
Once customer segments have been determined, the next step is to look at the margins each product generates, and that means determining the GMROI for each product. More specifically, for every combination of product, customer and channel through which it’s sold, a manufacturer should know what the GMROI is on the capital that is being deployed to provide that product in each potential combination, as well as in aggregate. Understanding the GMROI of each of these potential combinations reveals the customer/product/channel combinations that are not profitable enough or that could even be eroding margins.
When assessing the GMROI for various combinations, the data this analysis produces should allow manufacturers to address these questions for each:
- Should our company still carry this product?
- Should the product be make-to-order or make-to-stock?
- Should our stocking strategy vary by sales channel?
- Should we serve a specific customer or not?
- Where are we losing margin and why?
- How will we fulfill each customer’s order?
- What lead time is optimal for an order?
- What is the service-level agreement we guarantee dependent on the level of purchase?
- Should we change the offer of value-added services and the associated pricing?
- Where and how are we trying to differentiate our business from competitors to be meaningful to customers?
- What is the impact of changing the price, lead time, service level commitment and other factors?
For all manufacturers, the revelations of a GMROI analysis of segment combinations must translate into action if it is to have any meaning. Often, this means making the hard choice of letting certain customers go or detaching from certain products, Schindler said, which can be hard for family-owned or long-history companies that have developed an attachment or comfortable familiarity with a customer or a product.
Bringing it all together
Establishing pricing and order fulfillment logic
With customer segmentation and GMROI analysis, a manufacturer can translate this knowledge into how to differentiate its treatment of customers when fulfilling orders. And this simply means abandoning a one-size-fits-all method to adopt a dynamic pricing approach and variable order fulfillment logic.
For a manufacturer’s top-tier customers, order fulfillment logic should lead manufacturers to consider make-to-stock strategies to serve that segment, if possible, thus guaranteeing a timely flow of available products to this segment. Customer segments that call for products twice a year, on the other hand, should not be served in the same way. They should expect a longer lead time for orders unless there is stock available. Or perhaps the minimum order quantity and shipping terms should vary.
A manufacturer can use its customer segmentation and resultant GMROI analyses to vary its order fulfillment patterns, and in doing so it can smooth demand and better use production assets and labor to optimize production runs — “to remove the ‘lumpiness,’ if you will, from the manufacturing operation,” Eaton said.
It’s through this kind of analysis that manufacturers will realize that some customer segment purchases of particular products are not profitable and decide to discontinue or adjust prices on those particular orders. Tailored order fulfillment logic allows a manufacturer to avoid taking more drastic measures such as entirely discontinuing a product that’s not overall producing profit, in favor of dynamic pricing and restricted purchase options to bolster segment combinations that still show a favorable GMROI.
One promising method to make these sorts of determinations accurately is the use of digital twins when managing supply chains. Digital twins use advanced software and models with artificial intelligence to create a digital version of the supply chain operating model. This enables recurring simulation and optimization to help you identify and evaluate alternate order fulfillment logic and flow paths that produce a lower cost-to-serve for each combination or customer, product, and channel.
“The most profitable manufacturers are regularly using sophisticated software to maintain a digital twin of their physical supply chain operating model and constantly running analytics to evaluate cost-to-serve, because that's one of the biggest issues companies struggle with today,” Eaton said.
A low cost-to-serve profile is a definite market advantage against competitors in manufacturing subsectors where products are largely commoditized, the price competition for them is intense and not a source of long-term growth, and where the global nature of supply chains complicates cost structures, said Tara Soileau. Grant Thornton Transaction Advisory Managing Director. “In this environment, data-driven pricing and order fulfillment strategies are essential to maintaining and growing a company’s market position as well as ensuring long-term profitability,” Soileau added.
Also, order fulfillment logic should be a major consideration in site location or relocation, as analysis of where groups of customers and suppliers are located should guide this process, taking cost-savings advantage of reduced inbound and outbound shipping expenses.
“So many manufacturers are still relying on their spreadsheet-developed costing models for their products and simply applying a margin or relying on their engineers to do a pricing analysis on each individual order as it comes in rather than using the data that they have to determine what the optimal pricing should be,” Schindler said.
Industry subsectors each present unique concerns
While segmentation, GMROI and order fulfillment strategies can address most customer strategy concerns, the varied manufacturing subsectors offer particular challenges when addressing these challenges. Grant Thornton’s advisors see that based on their work, distinct manufacturing businesses can tailor their customer strategy successes to distinct particulars.
- “Industrial manufacturers can significantly boost profitability by fostering strong customer relationships, allowing them to better anticipate and meet demand needs with precision and efficiency,” said Jonathan Jayasinghe, Grant Thornton Risk Advisory Managing Director.
- “With the consumer products sector, segmentation is particularly key given the diverse range of products, from everyday necessities to luxury items,” said Mike Hennessey, Grant Thornton CFO Advisory Principal. “Sound pricing strategy and execution will enable manufacturers to maximize margin throughout that spectrum, thus minimizing the risk of material margin erosion should there be a product mix shift within the market.”
- “An optimally low cost-to-serve profile is a crucial market advantage against competitors, especially in chemical manufacturing subsectors where products are largely commoditized, the price competition for them is fierce and not a source of long-term growth, and supply chains are increasingly global, which entails more complex cost structures,” said Tara Soileau, Grant Thornton Transaction Advisory Managing Director. “Because of the market and industry dynamics, data-driven pricing and order fulfillment strategies are essential to maintaining and growing a company’s market position as well as to ensuring long-term profitability.”
- “The need for segmentation is particularly evident in the automotive industry, General Motors, Ford, and Volvo have significantly scaled back or deferred electric vehicle launches due to slower-than-expected adoption,” said Greg Bryen, Grant Thornton CFO Advisory Director. “Consequently, Tier 1, 2, and 3 automotive suppliers have had to significantly revise their product plans, leading to working capital shortfalls and potential financial distress.”
- “Customer segmentation allows food and beverage manufacturers to implement successful value-based pricing strategies which can maximize revenue and profit by aligning prices with the perceived value for each segment,” said Megan Walters, Grant Thornton Risk Advisory Principal. “For example, premium segments might be willing to pay more for organic or specialty products, while price-sensitive segments may prefer more cost-effective options.”
Conclusion
Often, the size of a manufacturing company can impede its ability to adapt to the demands of its customers. “The easiest thing to do is to know that something is wrong within the supply chain or that modifications are needed. The hardest thing to do is gather the correct data, adequately analyze it and make fact-based decisions to drive near-term improvements,” Eaton said.
To break through these barriers requires a management team that is disciplined and proactive about the future of its business. Manufacturers can also get locked into providing too many choices to too many customers based on the past, not realizing that more choices typically lead to more loss-leaders that erode margins.
A successful customer strategy and supporting operating model founded on a focused examination of what customers really want, when they want it and how to meet those needs most efficiently and profitably can reveal a path for high growth. When that happens, a manufacturer can stop choking on order obligations that strain systems, Eaton said, in favor of dynamic pricing and variable order fulfillment models, thus prioritizing its best customers while setting realistic expectations for occasional buyers. The time and costs saved by this will translate into the operating margins and earnings that serve as the foundation for future growth.
Contacts:
Jonathan Eaton
Principal, Growth Advisory Services
Grant Thornton Advisors LLC
Jonathan is best most recognized for his ability to help clients define their supply chain strategy in response to changing market conditions and other disruptive forces and subsequently helping
Charlotte, North Carolina
Industries
- Manufacturing, Transportation & Distribution
- Technology, media & telecommunications
- Energy
- Retail & consumer brands
Content disclaimer
This Grant Thornton Advisors LLC content provides information and comments on current issues and developments. It is not a comprehensive analysis of the subject matter covered. It is not, and should not be construed as, accounting, legal, tax, or professional advice provided by Grant Thornton Advisors LLC. All relevant facts and circumstances, including the pertinent authoritative literature, need to be considered to arrive at conclusions that comply with matters addressed in this content.
Grant Thornton Advisors LLC and its subsidiary entities are not licensed CPA firms.
For additional information on topics covered in this content, contact a Grant Thornton Advisors LLC professional.
Customer growth in other industries
Our manufacturing featured industry insights
No Results Found. Please search again using different keywords and/or filters.
Share with your network
Share