Distributors are operating on shifting ground, and old tactics aren’t working as well. But one strategy that’s garnering strong results for distributors right now is using a minimum order quantity (MOQ) program for small orders.
We discussed this strategic approach to distributors’ small-order problem on a recent episode of the weekly live show, Wholesale Change.
The small-order hurdle
Every distributor has small orders where the operating cash generated by the order, the gross profit, doesn’t cover the cost of fulfilling the order. The larger the proportion of these money-losing orders in your business, the more difficult it is to be profitable.
The problem is, most distributors’ efforts to affect change have a long chain, so the results aren’t optimal. A change-action chain is how many steps it takes to get something done. Often, executives must educate and motivate managers who must educate and motivate salespeople who must educate motivate customers who may in turn have to educate and motivate their operations teams.
If you want rapid and sustainable change, you must involve fewer people in the chain. The more directly you control the change, the faster and more effective the program is going to be. A minimum order quantity (MOQ) program has an inherently short change-action chain, doesn’t require long-term sustained effort, and presents immediate benefits.
Why and how minimum order quantities work
Getting over the small-order hurdle isn’t a matter of eliminating money-losing orders, it’s about raising their value and reducing the proportion you have. You raise value by having fewer lines below the money-losing threshold on an order. For example, if two-thirds of your orders are losing money and a third are profitable, adjusting so that only two-fifths are losing money can make a huge difference to your bottom line.
An MOQ program is a solution that controls cost to serve (instead of gross margin) to raise order values. Set the MOQ by SKU. Advanced analytics help you efficiently identify the right MOQs. Factor in:
- Pick quantities for the SKU
- Number of times it is picked at each quantity
- Comparison of pick quantity to carton quantity
- Probability it was picked at that level
- Revenue loss or gain at that level
- Profit you tend to make at that level
- Tendency of SKU to be on smaller or larger orders
Setting MOQs on the right SKUs will turn losses into profits on small orders. You cover your costs and potentially make money on the orders. This is particularly effective in customer relationships where you’re selling into their inventory. Small quantity increases on items not only increases operating cash on the order, it prevents future money-losing orders as the product is already in place. Reduction in losses is every bit as important as an increase in profits. If you scale across many orders, you get significant results without having a huge impact on stocking levels.
Here are other tips to improve the efficacy of your MOQ program:
Extend it to the vendor level. Talk with vendors about purchasing bundled packs instead of singles, and align carton quantities to the quantities you sell. For instance, if an item comes in a carton of 12, set your MOQ to a sub-multiple of that quantity (three or four). This will reduce “dead” inventory left in the carton to go unused or get broken.
Prioritize policies. Outline policies for when you’ll reject, accept or round up orders that don’t meet the minimum, and whether MOQs are more or less strict for certain products.
Take a situational approach. You might have MOQs for certain customers/product lines and not others, and you might need to make exceptions to maintain customer relationships.
Train your people. Train your people to a level of confidence explaining the benefits of MOQs, and give them a narrative for managing blowback from customers. When customers ask why a higher quantity was shipped, make sure they get the right answer – customers lose money handling low-value items, so you don’t stock singles due to low demand.
Benefits of Minimum Order Quantities
I’m seeing widespread adoption among my clients. Some of the benefits for distributors include:
- Fewer small orders
- Increased operating cash
- Reduced overall operating expense
- Reduced dead inventory
- Shorter change-action chain
- Sustainable and easy to control
There are few things you can do that will give you such a significant benefit for a low investment of time and effort. This is quick, it’s predictable, and it’s perfectly suited for the V-shape recovery. It’s a great strategy for companies that have taken a hit to their cashflow over 2020 and are looking for short-term relief. It’s also a win-win because the customer is going to be more successful and profitable as well.