The Magic of Margin – Generate Margin

The goal of a viable, successful business is to generate margin, or a surplus of funds, after the bills are paid. In for-profit (FP) organizations this is called margin or profit. Not-for-profit (NFP) organizations refer to operating surplus, or margin, when describing their profit.

The major difference between FP and NFP organizations is: a) For-Profit – the presence and superior role of shareholders as the beneficiaries of profit, and b) Not-for-Profit – the institution retains their surpluses to re-invest into their business mission

An institution typically generates a profit or surplus one of three ways:

1. Reduce the costs of business operations. Establishing a cost discipline is usually a good idea, and should be balanced with the institution’s growth targets. Many times, an institution’s sourcing department will apply cost reduction in a non-productive manner, such as demanding price reductions from suppliers.
2. Increase revenues, with price increases, or by expanding services. Pricing sets the rate of revenue collection per unit. Higher prices (if you can achieve an increase) charged in fixed, growing, or declining revenues will typically improve margin. Expansion of services will increase revenues, requires investment (in labor, facilities, technology) and must be weighed carefully to net an increase in margin.
3. The third option unifies one and two: the potential to improve pricing power for the manufacturer while providing cost savings. In this approach, both your and your customer’s profitability can be enhanced by improving quality and efficiencies. A primary focus of quality improvement that involves suppliers is process improvement that comes from technology implementation. There are massive savings, which yields margin, available by streamlining processes and doing more with less.

As a result, pricing of new technologies becomes interesting. For example: the cost reduction in the provider’s business operations resulting from newer high yield technologies could be passed along to the supplier via increased price. But these instances have become too rare for reasons explained in the next installment. Reducing the cost of operations for a business is typically accomplished by applying higher quality processes embedded in the newer technologies.

One more important point: There are rarely perfect substitutes for your product. Sure, most supply chain-purchasing managers will deny this fact, because it hurts their ability to commoditize your offering, to exert control and drive demands, such as, price reductions. If you have a solution that is prone to endure these supply chain practices, use product augmentations, such as, service, delivery, packaging, training…these will increase the asymmetry of your offering. These so-called asymmetrical alternatives (substitutes involving tradeoffs) require a more focused discussion on the impact your total offering will have on the customer’s processes. The technology enabled process supplied by your solution becomes the high-value “tipping point” in the customer’s decision. The business-oriented customer knows that process improvement creates much more margin, over a longer period of time, than a one-time price reduction.

In our next installment we will discuss why true commodities are rare, and how you can use this fact to create better customer relationships, profit, and more transactions.

First installment – The Magic of Margin in Deal Making.

By:
Gunter F. Wessels, Ph.D., M.B.A.
Total Innovation Group Inc., Practice Principal, Partner
and
Sam O’Rear
Total Innovation Group Inc., Senior Partner

Total Innovation Group
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