Pricing

Rebates Best Practices Part 5: Rebates as a Driver of Complexity

By Colin Carroll
January 15, 2014

In my previous posts in this series, I provided an overview of common rebate types and use cases (both incentive rebates and channel management rebates) along with tips for putting rebates to good use. Now, this post represents the conclusion of the Rebates Best Practices Series.

Rebates are a best practice precisely because they address customer gaming and over-promising. Why is this best practice not used more widely? Rebates increase the complexity of pricing processes, adding administrative costs and complexities. In effect, for most companies, there is a variable cost to rebates.

The most common challenges posed by use of rebates:

Quotation Visibility: visibility into customer net pricing, net of rebates, at time of quote

Some rebates are annual, set up once a year and apply to all volume that meets rebate conditions. If rebates are set up by Management, or maintained in spreadsheets or another system, the pricing desk and sales representative may be unaware of the existence of rebates at the time of quotation to a customer.

If you quote a price to a customer thinking it is a net price, and do not have visibility into the price net of rebate, you are experiencing price leakage.

– When you match a competitive situation, and the competitor does not have a rebate but you do, you are experiencing price leakage.

Analytical Visibility: visibility into actual customer profitability, net of rebates

After an order, suppliers working to analyze customer and product profitability turn first to invoice data. After extracting invoice data from a source system such as SAP BW, the pricing analyst loads variable cost data and endeavors to compare the margin contribution of all customer and product combinations.

But, if invoice price is the normal price, before rebates where rebates exist, this waterfall analysis will be wrong or incomplete, and this customer will appear more profitable than it really is.

– Clearly, rebates need to be incorporated into any customer and profitability analysis. But, often this is easier said than done.

Many companies do not have a system of record for rebate information. Rebate information is often kept in a spreadsheet by one person. Rebate accruals are managed in yet another system. If the pricing analyst does not have access to this information, profitability reporting is wrong.

– Note: Vendavo should become that system of record for establishing and managing rebates. Not for rebate accruals, but for rebate management.

Rebate visibility can be even more complicated if the rebate is at the product bundle rather than the individual part level.

– How does a supplier allocate the rebate on a product bundle to individual parts when evaluating part profitability?

Sometimes reporting and accrual systems accrue rebates at the customer level only, or at the customer/product family level

– How does the supplier allocate the rebate to an individual line item invoice level?

Actual end-user volumes:

– Often a manufacturer is utilizing an intermediary (distributor) to reach an end-user,

– And employing a Ship & Debit rebate to set an end-user price

– One or more distributors receive authorization for that end-user price in a multichannel environment, and the end-user may purchase through multiple channels

– The manufacturer does not have full visibility to the distributors’ data, making it virtually impossible to track actual end-user volumes or volume compliance.

– This is especially true when the same product can be utilized by several end customers. This creates complexity in both administrating rebates as well as in measuring customer compliance and win rates, etc. (multiple distributors/channels are quoting on the same business…)

– Some companies have a decent success rate in demanding and receiving point of sale (POS) data from their distributors

– This may reflect the balance of power in some industries, or POS incentive rebates in others

Administration of rebates:

Whether rebates are issued by credit memo or check, sellers require a process for:

– Establishing rebate agreements

– Monitoring actual shipments vs. projected/forecast volumes

– Determining which shipments qualify for rebate

– Calculating rebate

– Accruing for rebate

– Issuing rebate check or credit memo

– Evaluating rebate for effectiveness

– Planning for next year’s rebate

The administration of rebates is often such a big problem that many companies chose not to employ them. In effect, these suppliers are choosing to sacrifice price effectiveness for price efficiency. Most suppliers understand that customers game them, would like to do something about it, but view rebates as more trouble than they are worth.

The pricing best practice here is to substantially automate the rebate processes, removing all friction/variable costs from the rebate process so that a supplier can use rebates as a tool to increase price effectiveness and end customer gaming/over-promising.

Grandfathering

Even if a supplier has a process for issuing and allocating rebates, that supplier may fail to use the rebate tool effectively, instead allowing rebates to outlive their utility.

The problem, of course, is that rebates get rolled over from year to year without being closely inspected. Once established with a goal in mind, they quickly become expected by the customer and the sales representative. The seller is afraid to roll them back for fear of losing customer volume.

Rebates should be used to drive a very specific type of desired customer behavior. In the example above, the supplier wants the customer to buy more volume, and gives a price incentive to do so. By employing a rebate, the supplier makes sure that the customer only gets the price incentive if they actually buy the desired volume.

– Significantly, with the rebate mechanism in place, the burden for extracting this lowest price falls to the customer, not to the pricing desk.

Because rebates require an administrative effort to establish, most rebates apply not to spot opportunities but to ongoing supply arrangements between the supplier and ongoing trading partners, monthly customers or distributors.

– Rebates of this kind, between regular trading partners, are often established annually during a joint planning meeting.

If the seller cannot quantify the cost of a rebate program on an annual basis, or directly measure the impact of that rebate in relation to the behavior that they seek to encourage, then this is back in the category of rebate worst practices.

With tools like Vendavo, the seller can track the impact of that rebate program along a number of KPIs – such as invoice revenue, net revenue, volume, and pocket margin.

Best Practice: Waterfall Element Sensitivity

There are different types of rebates, employed for different tactical pricing objectives. In addition, there are different kinds of buyers. Some buyers seek to lower their ‘price’, the invoice price per unit; other buyers seek to maximize their rebate checks, or the growth of their rebate payments year over year.

Over time, Vendavo can help sellers to interpret their transactional data, telling the sellers which customers and segments appear to be very sensitive to changes in invoice pricing, and which appear to be more sensitive to changes in rebates.

This kind of information can help you increase prices more effectively. Increasing invoice prices to customers most sensitive to changes in rebates, and decreasing rebates to customers most sensitive to changes in invoice pricing.

Conclusion

Rebates are a pricing best practice for driving specific customer behavior and avoiding price leakage.  Define a rebate strategy, pick the appropriate rebate, and manage execution tightly, measuring to ensure that they are accomplishing the intended goal.

  • analytical visibility , B2B Pricing , best practices , End-User Rebates , grandfathering , pricing , quotation visibility , rebates , waterfall element sensitivity

    Colin Carroll

    Colin Carroll has over 15 years of experience helping manufacturers implement and automate price and margin management best practices. Colin is currently a Pricing Expert at McKinsey & Co. Prior to joining McKinsey, Colin was the VP of Business Consulting at Vendavo. Before joining Vendavo, Colin was a pricing strategy consultant in addition to eight years at International Paper Company in a series of sales and marketing management positions, including Marketing Manager, Catalog Segment and Marketing Director, Publication Papers. Originally from Buffalo, New York, Colin has an MSE in Operations Research and Industrial Engineering from the University of Michigan and a BA in Mathematics from Binghamton University.