It is a very simple equation to look at how margin is impacted by the price a company charges for its products.
Take a very easy example of a company whose P&L sheet looks like this;
Sales -100
Materials - 60
Labour - 20
Other - 10
Profit - 10
If this company has to respond to market forces and drop its sales prices by 5% and other costs remain the same the impact on profit is a dramatic 50%. The company has to double its sales or reduce its labour costs by 25% just to keep still. And that does not take into account that it is not acceptable to stand still in this profit hungry world.
Another option is to look to reduce the cost of materials or services by 8.3%. Or in effect pass on the problem to the company’s suppliers. Let them take the pain.
This hugely simplistic view gives a little insight into how companies can drive increased profits or protect existing ones by simply driving down the price of the products and services that it buys.
The problem of course is that over time, this race to the bottom reaches that point and what do you do next? If you have constantly driven suppliers to deliver cost savings how does growth come when that no longer works?
Particularly when the suppliers that have been beaten to the ground have been unable to invest in new technologies, clever people and innovative marketing as they have been striving to exist on less.
It is easy to look at what has been happening in the UK retail sector and point to many of the problems that are occurring as part of the inevitable result of aggressive buying tactics.
Years ago when my children were younger, we often went to Sunday lunch at a local restaurant. The kids loved this place because when they finished their main course they were given an ice cream cone and could self dispense an ice cream from a Mr Whippy style dispenser.
One weekend meal finished there was a queue for the machine and one child was dispensing his ice cream, which appeared to have developed a fault. Rather than shut off the ice cream after a pre-determined amount, the machine continued to dispense. This child could not believe his luck. As the ice cream got bigger and bigger, the child’s eyes grew wider and wider. Until of course the inevitable happened.
Ice cream all over the floor, and no ice cream for little Johnny.
The good negotiator uses all of his ability to get the best deal possible but thinks of more than just the next few moments, immediate gratification or the next quarter numbers. In the long run, greed may not be to anyone’s benefit.
You can watch the video below giving a simple explanation of the dangers of Greed, and explain why during preparation it could be a real sin to be too greedy.
Alan Smith
