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HomemitwocentsThe Obsession with Discounts

The Obsession with Discounts

Business consultant Michael Jacobs reflects on lessons learnt from a high profile career in optics, giving mivision his ‘two cents worth’ on the future for independent optometry, Australian-style. In his second article he talks about discounts, margins and Practice Management Systems.

One of the enduring mysteries of independent optometry in Australia has been its obsession with discounts from frame suppliers. For many years, and certainly in the era prior to the current more competitive environment, many optometrists and – dare I say it – buying groups, used discounts as the major decision point in selecting frame suppliers. The typical independent looked at wholesale discounts as a bonus, cream with their jam you might say.

Unsurprisingly, suppliers were pressured to give greater and greater discounts to get or maintain the business of many of their bigger accounts. Over the years this resulted in suppliers increasing their wholesale list prices to accommodate the growing level of discounts. Wholesale list discounts of 15 per cent to 40 per cent were not uncommon.

The Problem

This would not have been a problem but for the fact that most practices entered wholesale list prices and not discounted (or net) purchase prices into their Practice Management System (PMS) and then used a simple formulaic mark up structure to arrive at a selling price. The result was problematic from many perspectives, the most obvious being that the PMS did not accurately reflect the practice’s gross margin (or cost of goods sold). In fact many practices to this day must wait for their end of year figures to come back from their accountant before they have any idea what their real cost of goods sold was for the previous year. This is akin to measuring a patient’s temperature and waiting for a year or more to get the results back to determine if the patient is sick.

Remember what the comic strip character Pogo said “I have seen the enemy and he is us”. Take a close look at how you do business

More recently, however, this problem has been compounded by an increasingly price sensitive market with significant downward pressures on retail prices and, thus, margins for the practice. Practices sought solace by requesting greater discounts from their suppliers or buying lower priced (and quality) product.

From the wholesalers’ perspective the problem was even worse. Because practices used a fixed mark up from wholesale list to retail, no amount of wholesale discounting reduced the product price to the consumer. Wholesalers were in a bind. Their wholesale list prices had been inflated to allow for the ever increasing pressure for discounts but increasing discounts had no effect on the price to the consumer because the practice was marking up from wholesale list and not the net price. Wholesalers’ products were becoming uncompetitive in the market place and wholesalers had no control or influence over that. The system was broken and in desperate need of overhaul at two levels. Wholesale list prices needed to be more realistic and practices needed to change their modus operandi when it
came to retail pricing.

As a result, a number of suppliers have recently acted to reduce their wholesale list price and reduce their discounts. The result to almost all practices has been no change in their actual cost or net price from the wholesaler. Unfortunately for many practices using the formulaic approach to mark ups, this proved to be a problem.

Wholesale list prices had reduced and thus their retail prices had similarly dropped but margins had also dropped due to the reduced discounts. So while wholesalers had achieved their goal of lowering retail prices by lowering wholesale list prices, many practices believed it had been at
their expense due to reduced margins.

Fortunately, some more enlightened practices have recognised that formulaic mark ups are a thing of the past. For the rest a fundamental change is required and it isn’t simply throwing away the formulaic mark up regimen. It requires a complete rethink in the way products and suppliers are selected and how retail prices are arrived at.

This rethink starts with understanding what product the patient wants and what price (after any discounts) they are willing to pay for that product relative to the rest of the market and the competition. The next step is to find a reliable wholesaler who will supply that same product at the lowest price (net of any discounts or other charges). Then, assess the margin between the cost and sell price and determine if that margin is sufficient to maintain desired profitability. If not then maybe it is time to exit that product line and find a replacement with a greater margin and/or greater volumes. Repeat this process for all products offered.

The Solution

Now to the Practice Management System: many suppliers are bar coding their invoices to simplify product receipt and data entry. Investigate what options the selected supplier offers as receiving product is a very time consuming activity in most practices. Regardless of the method used to enter data into the PMS it is critical that the PMS shows net wholesale prices as the cost price and the price the patient is willing to pay as the selling price. When this occurs the PMS can measure gross margin whenever required allowing constant oversight of the practice’s performance.

Once a practice owner or manager becomes adept at using this process it becomes readily apparent which products and which suppliers are providing the practice the greatest gross margin. It turns the Practice Management System into a management tool and not just a cash register.

So, when your supplier announces changes to their pricing structure and reduces discounts, don’t complain about the supplier.

Remember what the comic strip character Pogo said “I have seen the enemy and he is us”. Take a close look at how you do business. Compare your retail business to other retailers. Be honest with yourself – are you the problem or are you the solution?

Michael Jacobs is the former Chief Executive Officer of Eyecare Plus. He is now a business consultant and columnist for mivision.