The Keys to Finding Your Gross Margin Holy Grail

A distribution gross margin improvement pricing journey can often feel like an epic quest. You push into the wilderness with optimism, looking for the holy grail.

You may have invested in a SaaS pricing solution or two, a great team, and a modern cloud ERP. Yet, when the monthly numbers come in, you do not see the margin improvement to justify your investments. The dreams of finding your gross margin holy grail are crushed.

Why? It’s a complex answer, but in my experience, the reasons usually fall into two main buckets.

The Pricing Team is Not Connected to the Overall Business

The team you have assigned to margin improvement may be working in a silo — disconnected and misaligned with the sales and inventory teams.

It’s rather simple to see this when you step back and consider how easy it is for sales teams to view pricing as a “fix-all” solution.

When a customer places an order, they know the product they need and the quantity required for a particular project, so if you try the McDonald’s cross-sell: “Do you want fries with that?” the answer is usually “No. I am only buying what I need for this project.” Additionally, if the customer needs a standard item they’ve purchased before, and you try to upsell a premium item, the answer is: “Thanks, but no. I am only ordering what I know I need for this job or project.”

So, if standard cross-selling and upselling are difficult, what is the easiest thing you can change to win larger orders and drive sales? Price.

Unfortunately, this means that if your sales team views pricing as a solution to drive sales, your pricing team can be viewed as an obstacle. I have been on distributor teams and worked with many distributors where the impression was that the pricing team was raising prices indiscriminately across the board, fostering fierce resistance. Indeed, most pricing efforts involve raising prices on a “long tail” list of less frequently ordered products.

It becomes even harder for the pricing team to win over sales when it over-relies on “black box” software that pushes price recommendations without providing sufficient context for sales to get comfortable with lengthy lists of SKUs with price hikes.

It’s so important for the pricing team to share the benchmarked insights that supports pricing decisions with sales teams, providing a level of transparency and education around which customers deserve favorable pricing and which don’t, and which products will bear price increases and which ones won’t. That transparency creates the common pricing language that connects the pricing team with the sales team and breaks down silos.

Which brings us to a related reason that so many pricing investments fall short of expectations:

Lack of Proper Product and Customer Segmentation When Making Optimal Pricing Decisions

There are many great pricing software solutions out there that deliver core pricing intelligence. They generally all build a solid floor, target, and stretch pricing system.

What is often missing or not properly factored into pricing decisions, however, is customer segmentation. For example, your top customer may be the only one buying a specific SKU. In your system, because only one customer is buying that SKU, it may be ranked as a “C” item, but to your top customer it is an “A” SKU. It may be foolish and bad for business to price it like a “C” SKU for your top customer.

Pricing software is largely based on history, which means that customers’ potential (their “future” segmentation) is a big missing element. Many “smaller” customers that you may be pricing as “marginal” customers to maximize GM% may be “core” customers for one of your competitors. So, while that competitor is pricing them more aggressively to take wallet share, you are pricing them to maximize margin %. In those cases, slowly but surely they become smaller and smaller customers for you in a self-fulfilling prophecy. On your sales report, you may grow gross margin % every year but yield fewer gross margin dollars overall.

Customer and product mix changes can be as impactful to your bottom-line Margin Improvement as pricing software. Selling to more profitable, core customer segments (changing the mix) and maximizing the sales of your more profitable product categories (using gap analysis) are effective ways to grow both GM% and top-line sales simultaneously as a complement to pricing optimization.

The Final Word

You can simultaneously grow GM% and top-line sales above market rates with a great team and the right software and support, but you will rarely be able to do that sustainably without making sure your pricing team is working effectively with your sales and inventory teams. Layering in transparency, coupled with item and customer segmentation can help create the common language to align your teams while providing the context to help make more confident, informed, corporate-wide pricing decisions. That’s the one sure-fire route to finding your gross margin holy grail.