2 min read

Understanding average selling prices

Deflation is the key to maintaining your margins

Historically the deflationary nature of the global IT industry has been offset by the market’s ability to consume ever-increasing numbers of units of product.

Like a bicycle, as long as the units increase, the industry continues to move forward with some stability. Also like a bicycle, when the unit increases stop or reverse themselves, the stability is lost. In category after category, the markets have begun to consume flat or reduced numbers of units. When added to the deflationary structure of the industry, this deflation can become a silent killer of all species of partners. This article focuses on the crisis of transition.

Four options exist for a partner CEO and his/her company:

1 do nothing

2 drive up units

3 drive down transaction costs

4 change the business model

It is clear that doing nothing is not a good strategy to pursue. The Gross Margin Dollars simply leak out of the business resulting in a slow liquidation strategy.Driving units up is a tough strategy to succeed at in a growing marketplace. In a market of flat units, or declining units, it is nearly impossible to execute.

It is impossible to maintain profit if SG&A/unit does not fall dramatically. SG&A per unit must be driven down faster than the Gross Margins/unit are falling in order to increase profitability. The Drive Down Transaction Costs option is presented. With flat unit growth, the transaction costs per unit must be significantly reduced in order to maintain constant real profitability (dollars, not percentages).

Clearly the Drive Down Transaction Costs option is impossible for most partners to execute while maintaining current customer satisfaction levels; the cost cuts would gut the business. The four key variables are at work: unit volume, average selling price, margin percentage and SG&A per transaction. Business Model changes are intended to create a situation whereby the key variables are modified so that profit increases or stays constant. Assuming that SG&A levels in the business are constant, higher profits should result.

If you can increase both the Average SellingPrice and Gross Margin by 20 per cent. For most partners, this achievement requires an increase in the amount of Services in the revenue mix.

Implications for management

Deflation is a silent killer and a key driver of transition. Without deflation, we would not have any reason to transition. It causes gross margins to quietly leak out of our business models like water escaping from a rusty bucket. Most of us can’t afford to do nothing – you must review your business thinking specifically about the interaction between falling ASP, falling margins, unit volumes and SG&A costs (Figure 1). Driving increases in unit volumes does not solve the profit problems unless SG&A per unit can be dramatically decreased. Simple draconian cost cutting does not solve the problem because not enough can be cut without destroying your business. In the face of falling ASP, Margin percentage and unit volumes, changing your business model is the most direct way to achieve the increases in ASP and Margin percentage necessary to compensate for lower unit volumes. The development and strengthening of the Services component of your business is the best way that you can make this happen. Review your business. Do the math. Plot your course.

Get into action.

Bruce R. Stuart, CMC is the President of ChannelCorp Management Consultants Inc. Established in 1989, ChannelCorp is a global management consulting firm that specializes in increasing the productivity of vendors’ channel partners, and the value of the businesses of IT vendors’ channel partners. The clients of ChannelCorp sell in excess of $300 Billion worth of computer and telecommunications hardware, software, peripherals and services annually.