Tag: sales promotion

Simulation models

Simulation models

In simulations the chances of a decision are compared to its possible risks, quantified and evaluated. Users of simulation models are primarily the decision-making executives. Since decisions can only be made for the future, assumptions are first made regarding quantities, times and values to be achieved.

In order to increase the reliability of decision-making, as much reliable knowledge as possible should be incorporated into the simulations, i.e. previously realized quantities and net sales prices as well as actual costs. This can be sales volumes and net sales revenues realized with previous customers as well as the proportional and fixed costs incurred for these. A management accounting system provides this data if it meets the requirements described in the post “10 principles for Decision Relevance“.

    • If new customers are to be won with the existing services and products, it must be estimated what additional contribution margins are to be won with these new customers and whether new investments or higher fixed costs are to be expected for this growth. The additional contribution margins to be generated must at least cover the delta of fixed costs plus the delta of imputed depreciation from the investments.
    • If new products are to be added to the range, it must be estimated how much additional contribution margin can be generated by this expansion and whether this will be able to cover the additional fixed costs (including change in imputed depreciation) that have also been estimated.
    • If investments in information technology are to reduce the costs of planning and handling internal processes and documentation, it is necessary on one hand to estimate which cost center costs leading to cash outflows can be reduced and to what extent, and on the other hand which investments will be required for this and during how many years these investments can be used.

Is a campaign to win new customers worthwhile?

The sales management of Ringbook Ltd. is considering a campaign to acquire additional customers. From November to January, then when the filing cabinets for the following year are labeled in the companies, potential new customers are to be contacted. Article 105010, the standard ring binder for filing, is to be offered in this canpaign at the gross special price of 2.90 instead of 3.60 (approximately 20% discount). In the advertising brochure  however the offers for customized ring-binders are to stand in the foreground. At Ringbook Ltd. these products generate higher contribution margins per unit than the standard products.

It is planned to produce and stock an additional 20’000 units of ring-binder 105010 after the summer break. For the advertising campaign (letters and emails), a budget of 14’000 EUR is planned for brochures (design and printing) as well as envelopes and postage. 5’000 potential customers are to be contacted. The internal sales department will pack and mail the brochures. Should this advertising campaign be carried out?

Structure of the simulation model

The simulation model should be able to show how changes in the key values could affect the financial success of the promotion. Key values are:

    • How many potential new customers should be contacted, what proportion of them will order how many pieces of article 105010?
    • How many items sold at the special promotion price are needed to cover the costs of the promotion?
    • Are the personnel and machine capacities available to produce the planned quantities on time? Will this require working hours with shift allowances?
    • Can the existing internal sales staff perform the work for the promotion or are higher than planned personnel costs necessary for this?

Relevant for the decision are the assumptions made by the managers and existing data from the planning and control system of Ringbook Ltd. (see Management Control System, integrated planning and control and the simulation model contained therein).

The red fields are the preliminary assumptions of the managers, the blue fields contain the initial data from the simulation model of Ringbook Ltd.

Simulation models
Simulation models

 

Columns 1 – 3 contain the calculation basis:

    • Gross sales divided by sales volume gives the applicable gross sales price of 3.60
    • The 17.4% is the average discount rate granted to existing customers based on their customer group membership. This gives the net revenue of 375’705 in line 5, column 2.
    • The proportional product cost per unit 105010 of 1.02 also comes from the simulation model.
    • With this information, the CM I per unit and per period (246’672) is calculated.

In column 4, the key values of the planned action are linked to the initial data:

    • Planned quantity, 20,000 pieces, gross sales price 2.90.
    • The average discount rate of 17.4% is taken from the annual planning, as well as the proportional manufacturing costs of 1.02 per piece.
    • If the planned 20’000 units can actually be sold as a result of the promotion, a CM I of 27’400 results. After deduction of the direct costs of the promotion (fixed) in lines 9 and 10, a profit improvement of 13’400 remains.
    • Due to the special discount, the CM I per unit decreases from 1.95 to 1.37. This means that the promotion is profitable if more than 10’219 units are sold at the promotional price (breakeven quantity of the promotion).

In the mentioned simulation model, the available and used capacities are also planned in minutes per cost center. From this evaluation, it can be seen that sufficient free capacity is expected to produce the 20’000 pieces for the promotion in the fall months:

capacity requirements

Capacity requirements

The described action to attract new customers can be carried out. It is worthwhile if slightly more than 50% of the items 105010 produced for the promotion can be sold at the special price. The unsold pieces are still in stock at the end of January at proportional product costs. The chance of persuading new customers to order individually equipped ring binders is intact. Approximately 4 months after the end of the campaign, it should be assessed which new customers have been won and whether they have bought again.

Data basis for simulation models in management accounting

The quantification of planned promotions should show how the results (contribution margins, fixed costs, investments) are likely to change. The prerequisites for this must be created in the operational systems:

    • In the resource planning system (ERP), it must be possible to plan material and working time consumption as well as capacities, sales and net revenues and to track them in actual terms.
    • The management accounting system must be structured as a step-by-step and multidimensional contribution margin accounting system so that the proportional planned product costs and thus the contribution margins to be achieved can be calculated.
    • The new investments to be expected must be taken into account. The previous depreciation costs are not relevant for the decision (sunk costs).

 

Piloting for Market Success

The quality of the customer acquisition process determines net revenue in the medium term.

Todays net revenues are largely the result of previous marketing, sales and product management actions. Leads (qualified addresses for persons to be approached in specific companies) are the starting point for presenting an offering to future customers. The presentations should result in requests for proposals or quotes. These, if they are acceptable to the prospects, become incoming orders and ultimately sales. To plan actions, processes and investments in marketing and sales for the next year, leads are therefore important, albeit uncertain, piloting for Market Success variables.

Piloting for Market Success
Preparing for sales growth in the mid-term

Piloting for Market Success

To be able to recognize and track the developments in business initiation, it is advisable to work with time series analyses. The focus is on various questions:

    • How many leads are needed on average to receive an invitation for a presentation? For this purpose, the leads procured can be related to the visit invitations, i.e.: number of leads : invitations received, each in relation to one year. Since an acquisition call can be the result of a contact from previous years, the multi-year development of this key figure (moving average) should also be shown. The determination of this key figure requires that the leads and the agreed appointments are recorded in the customer relationship management system (CRM) in terms of content and date.
    • The contacts with the prospects (date) and the contents discussed should also be recorded in the CRM system. This makes it possible to evaluate the period between the initial contact and the offer request and to document the contents of the conversation. This makes it easier for the account manager to prepare the next calls.
    • If the (potential) customer requests a quotation, this should already contain the individual items offered with their prices and conditions in as much detail as possible. In this way, the open quotations can also be taken into account in sales and production planning. The basic data required for this (customer data, article data, discounting rules, payment conditions) is often kept in the ERP system, to which the CRM system is linked.
    • Relating the submitted offers/quotations to the number of leads generates more piloting information: A) Evolution of the average time between lead generation and offer over the years. B) How many leads have to be processed on average before an offer can be submitted. These metrics are important for the salesperson’s work planning, as they allow him to estimate how long it takes from the initial contact to the offering and how much working time it takes.
    • If an order is received, a comparison of the outgoing quotation and the customer order can be used to determine how many quotations have to be created in order to achieve an order entry and what period lies in between (average values per salesperson, territory, product group).
    • If the executed order can be invoiced in the ERP system, the time period between order entry and revenue generation becomes visible. This indicates to the salesperson whether he needs to increase his working time percentage for customer acquisition in order to meet his sales and contribution margin targets.
    • Dividing the order backlog by the average monthly sales shows how many production months are covered through the order backlog. If this value falls, this is an indication that customer acquisition must be intensified if sales are not to collapse in the medium term.

In the example below the data preparation and the resulting key figures can be traced over 5 periods (months):

In this example from lead and first visits to sales

    • 10 leads were received resulting  in 7 submitted offers with an average amount of 12,000 after an average of 1.9 months. 70% of the leads were thus successful.
    • 4 of the 7 submitted offers were accepted (success rate 57%) resulting in an order intake of 50,000 (success rate 60%). Customers took an average of half a month to accept the offer.
    • Sales could be invoiced after 1.5 months on average after order entry. This results in a total lead time from the arrival of the lead to the generation of revenue of 3.9 months.

It takes 2.5 leads (10 : 4) to generate 1 order. On average this takes 2.4 months (1.9 + 0.5). To achieve 1 EUR order entry, an average of 1.68 EUR offer volume is required (84,000 : 50,000). Linking all of the above shows that if only 50% of new leads are generated in one month, the revenue from new customers will also drop by about 50% after about 4 months.

These key figures not only help salespeople manage their workload. Sales promotion and marketing or advertising departments can also use them to determine which actions they should take in the next planning periods. To do this, however, these departments also need to know which products they should focus on promoting by looking at contribution margins per unit. In addition to strategic considerations, contribution margin analysis at the product level is also very important. The main products to be promoted and supported with sales promotion campaigns are those that generate a high contribution margin as a percentage of sales or net income.

Article-related contribution margin accounting (planned and actual) provides the necessary information for this (see the post Contribution Margins to Cover Structure Costs ). In the CM-calculation, it can be calcuated in plan and actual how many cents are left over from one EUR of sales to cover fixed costs and generate profit (EBIT). Advertising and sales promotion should therefore direct their actions towards items whose CM I in % of sales increases over the years or at least remains the same, as the market position allows to enforce higher net sales prices or because the proportional manufacturing costs of these items decrease over the years due to internal process improvements.

All the data elements mentioned in this post stem from internal company data. They help to plan the actions of the near future but have nothing to do with strategy yet. That is why we refer to them as piloting variables.

The cycle described above “from lead to sales” relates primarily to the initiation of profitable business with new customers. The analyses of developments in past years show where the greatest opportunities for success exist and can be seized.

For the successful further growth of the existing and future business, further piloting data must be considered. This is the subject of the post “Analysis of previous sales developments”.