By David S. Bauders, CEO SPARXiQ and Trade Hounds

Over the last few decades, engaging in long-term relationships with hundreds of distributors, I’ve gained a good perspective on the qualitative and quantitative differences between average distributors and elite performers. Although varying significantly by vertical market, the average distributor generates four percent EBITDA as a percentage of sales. Meanwhile, the elite distributor will attain EBITDA of eight to twelve percent of sales or more, with proportionate advantages in Return on Invested Capital. In other words, elite distributors each year are earning two to three years’ earnings of their average peers. In this post, I’d like to share some common traits of these elite performers.

To provide a comprehensive but simplified view of the sources of competitive financial advantage, it can be helpful to consider the Profit Formula:

Profit = Sum of ((Unit Price – Unit Cost) x Quantity) – Fixed Costs

With the Profit Ratio being the above versus the fifth variable, Invested Capital

While an oversimplification of complex business variables, in this formula, exceptionalism comes from outperformance in one or more (or often all) of the above variables.

The Ideal Customer Profile Discipline

A company’s success in all five variables derives first and foremost from the choice of Ideal Customer Profile (ICP). That is, whom do we seek to serve? Many distributors have either failed to define or to enforce with their sales teams the discipline of ICP. They chase any customer who has a pulse, ignoring the contradictions that come from mission drift and the Plague of Sameness. 

Not all customer segments in a given vertical are equally valuable. For some customer types (e.g., large project bidding customers, purchasing relatively commoditized products, with relatively low service requirements), it can be exceedingly difficult to create distinctive customer value and thus to capture elite financial value. There is, of course, value in customer diversification, but only in the context of a disciplined portfolio-balancing approach, where each portfolio element has clear contributions to financial performance, synergies, and risk-mitigation (such as oppositely correlated growth coefficients).

Pricing

Elite distributors understand that the key to success is not only creating value for selected customers but also capturing a distinct share of that value. Companies that successfully create value but fail to capture value will ultimately lack the resources to innovate in the creation of new customer value and will likely be acquired by companies that are more effective at capturing value from their book of business. 

Having secured the foundation of superior performance with the ICP Discipline, the elite distributor will ensure that all layers of pricing (list price, system pricing, contract pricing) are aligned to capture financial value derived from distinctive customer value. For elite distributors, pricing excellence is a core capability of the organization. They leverage prescriptive analytics and workflow tools to manage system pricing, contracts, special price agreements, and sales price override authority. Elite distributors also hire, train, and coach their sellers to support value-based selling, professional negotiation skills, and business acumen.

Unit Variable Costs

The ICP Discipline also supports exceptionalism in the second variable, Unit Cost. With a more focused and disciplined vendor and product offering — itself a driver of competitive separation — ICP distributors are able to shed low-turn generalist products. In addition, through specialization in core ICP customers, elite distributors also emerge as Market Makers — in contrast with Market Takers — to their suppliers. As a result, they generally negotiate better terms of trade in standard, into-stock cost positions; volume and growth rebates; as well as SPAs and customer- or project-specific rebates. They also tend to have lower Customer Acquisition Costs.

Quantity

The ICP Discipline also surfaces in the third variable, Quantity. The ICP Discipline — and the foundation of value-based selling competencies — gives sellers specialization advantages in serving their focused customer segments (versus their generalist competitors). This tends to support higher supplier position with their customers, higher wallet share (of chosen addressable spend), better product mix, higher organic growth rates, and lower customer defection rates.

In addition, elite distributors’ sales teams embrace digital platforms, prescriptive sales analytics, and compensation systems that reward seller alignment with ICP strategy. The combination of focused hiring, training, coaching, and incentive systems reinforces the ICP Discipline. Elite distributors’ sales teams purge the chaos of Wild West selling to become predictable revenue-generating systems.

Fixed Costs

The ICP Discipline also provides competitive separation in the fourth variable, Fixed Costs. With greater focus, sales productivity, branch productivity, operations, and capital in general become more efficient, less diluted, and thus contribute to competitive separation not only in their production of customer value but also in the lesser resource requirements needed to address their ICP (versus a scattershot generalist approach). They similarly focus their marketing and demand-gen resources to support ICP alignment. Any fixed cost that doesn’t tie directly to the value-creation or value-capture of selected ICP profiles is eliminated.

Invested Capital

The same focus on focused Fixed Costs leads to competitive separation in the fifth variable, Invested Capital. By fencing off cost elements supporting only excluded customer types, the capital investments of elite distributors are inherently lesser and more productive than those of their generalist competitors.

Summary

Elite distributors start with a strong strategic advantage in the definition of whom they will — and won’t — serve. They reinforce this ICP Discipline with value-based pricing systems that ensure that where differentiated customer value is created, it is also consistently captured. Through sales team specialization, they both create higher Quantity (wallet share, product mix, and organic growth rates). These distributors also apply focus to rationalize their Unit Costs, Fixed Costs, and Invested Capital.

Once the core ICP Discipline has been well established, not only does the business become more profitable, it also becomes simpler to run. The myriad distractions of the Roulette Wheel approaches to customer acquisition and support are fenced off from the business. What is surprising is that the ICP Discipline is so rare in the distribution industry today.

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