RTM: I guess some suppliers still see their channels-to-market as pipes down which to thrust products. So why is it so important to understand your partners’ business models?

TS: Ultimately, if your channel succeeds, so do you. If you don’t understand the channel’s business models and know how you and your products influence it, then you can’t help them succeed.  There is even a danger that you can destroy value within the channel.

RTM: How do you mean?

TS: Well, you might put in place incentive schemes that are totally inappropriate. You might, for instance, encourage them with financial incentives to buy large amounts of product that they won’t be able to resell fast. This would damage the return from their working capital.

If you don’t make the effort to understand the impact that you have on the channel’s business models, then the default will be around a buy/sell relationship and negotiations will be concentrated around gross margin.

After all, there is only so much gross margin, so who is going to get it?  You or your partners?  How do you share it out?  And that is very destructive because it is a constant, very wearing, conflict – if I win, you lose.

You also cannot have a real dialogue. People who run intermediaries often say to me: "I wish my suppliers understood my business. All they want to talk about is their latest products, their latest programmes and how I am going to help them to hit target!"

RTM: OK, but how does understanding your partner’s business model change the relationship?

TS: Oh, in any number of ways. If you start talking about their business, rather than your products, you can engage at a much deeper level. This means you can start proper dialogues with their senior managers. You become part of the industry; you become an insider. Ultimately, they see you not as a supplier, but as a business partner.

“You become part of the industry; you become an insider.”

This also gives you a far better idea of what else is going on in their business. For example, if you are prepared to sit down and discuss how your products affect their working capital or inventory turn, it won’t be long before you are both comparing your performance to other suppliers’ products.

That kind of insight quickly throws up potential areas of opportunity! Of course, it also begins to highlight how your products are performing – in terms not only of margin, but also of turns and other metrics that may be in place.

All this means identifying areas where you can both benefit. So the relationship is now win/win, rather than a confrontational win/lose battle centred on margins.

RTM: OK, so what does "understanding your partner’s business model" really mean?

TS:  Right. Firstly, it means having a clear picture of how they make their money. Secondly, you need to appreciate why customers buy from them: in other words, how they create value. Thirdly, you need to know their goals – what is their business plan?

RTM: Let’s look at that first point in more detail. What do you mean, how they make their money?

TS:  In most intermediaries who are reselling products that means earn and turn. To earn money you have to be efficient – you have to have a low cost-to-serve. Turn means you have to optimise the working capital, which would include inventory, creditors and  debtors.

So at a basic level the account manager needs to know the intermediary’s gross margin and its cost-to-serve – which normally means its sales, general and administrative costs and how often it turns its inventory. Once you have these basic measurements in place and some data, you can start to ask questions like – so what happens to your profits if we can double your inventory turn?

RTM: So how does that translate into reality?

TS: Well, you need to be able to understand the different types of channel player in your industry. For example, that might mean mail order/e-tail, retail, corporate reseller, distributor, consultancy, etc. and how each type of business model works and adds value.

Understanding the business model of your partners will enable you to act on the right levers to improve performance for both parties.

RTM: How do you mean?

TS: Well it is only if you understand their businesses to this degree that you can start to discuss the impacts that products will have on the business model.

For distributors, the main levers are going to be around gross margins, efficiency costs and working capital, with a particular focus on inventory. If you can work with a distributor to dramatically improve his return on working capital by reducing inventory turns, you will make a friend!

For a business-to-business reseller it is often about helping the reseller to offer a complete solution to the end-user and assisting them with value-added services.  Suppliers can also be a big help in sales and marketing. Often they have amazing contacts with blue-chip end-users. They can really help resellers with networking.  The priority for a retailer is typically better inventory management and helping the retailer to create more foot traffic.

All this builds into a business proposition for the intermediary.

RTM: Can you give an example?

TS: OK. Take Harry Potter and The Order of the Phoenix. I went into a bookshop that was offering discounted copies, bought the book for £12.50 and then spent another £80 on other titles. I would guess that the underlying proposition from the publisher, Bloomsbury/Scholastic, goes like this: "We are going to generate huge demand for this book through a lot of marketing and PR. We will create an environment where everyone wants it – Harry Potter fever.  Promote it hard, possibly at a discount, and it will generate a lot of business for you, the retailer." 

RTM:  I guess this all presupposes that the managers inside the intermediaries understand what makes their own businesses tick! Do they?

TS: Increasingly the answer to that is yes, particularly the larger ones. But you still come across a lot of misunderstandings.

RTM: For instance?

TS: Well, for example, some intermediaries lump services and products together. Really they should look at them as separate businesses with separate dynamics, because you can’t apply the same measurements to each. A services arm should be making 15% to 80% gross margin, whilst a product arm might manage on 5 to10%.  If you don’t recognise that they are different business models, then you risk cross-subsidising them – which leads to huge instability and ultimately risks the business as a whole.

RTM: So how do you develop these insights into your partners’ business models? I mean they are hardly going to throw open their books to their suppliers, are they?

“The days of double-digit growth and high margins are over.”

TS: If you approach them in the right way, we find that is precisely what many of them will do!

Essentially, you have to demonstrate that you understand what their business is about but that you need a little bit more knowledge. I know one account manager who said: "I know you need to grow your business. And I know that my products have an impact on your working capital. But I don’t know if our product portfolio is performing well or badly for you. Shall we try and find out?"

So it is about asking questions that relate to their whole business and stepping away from your personal objectives to maximise total returns.

To do this, suppliers need to educate their account managers, to ensure that they understand channel models and how they affect them. So it is something that can be learnt and which needs to be constantly looked at and discussed internally.

As they become more and more familiar with it, so they naturally start discussing it. You may need some formal training up front, because account managers are sometimes very reluctant to become this engaged.

RTM: I guess you also sometimes need to educate the channel.

TS: Yes, but you have to be very wary of being condescending. Intermediaries do not like it when suppliers tell them how they should be running their business.

RTM: How do you get round that one?

TS: One way is by getting your intermediaries involved in planning the curriculum and contents. 

RTM: I suppose such courses are only of value when channels are very immature and the entrepreneurs who are running them do not really understand the underlying business models.

TS: Clearly it is useful then. But channels undergo huge changes. For example, in many wholesale channels margins have dropped from 10–15% to 4–5% in a few years. That means that everyone in that channel is having to reinvent the wheel. I would argue that good suppliers should be in there digging into that debate.

RTM: So ultimately you would argue that this is about survival?

TS: For the intermediaries, yes.  The days of double-digit growth and high margins are over: intermediaries need to understand where the value is being created in their business, which products, categories and customers are improving their overall performance and which ones are destroying it.

Suppliers must be in a position to understand who are going to be the winners in the channel, and to engage with them in a way that improves both businesses. A prerequisite of this is the need to understand the businesses’ models and the impact that the vendors have on them.