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LBM Pricing: Don’t leave money on the table!

We see all sorts of approaches to pricing in lumber yards. The disparity is nothing, if not fascinating.

Some yards rely on their road sales people to set prices based on an overall margin goal. Some set prices once a week or month, and then hold the salespeople to those prices. Some let salespeople override prices that are set up in the point of sale system. Others give salespeople a markup to use, depending on the category being sold. Some set prices using their average cost of the item at the time of the quote, while others use the replacement cost as the basis.

What are the best practices? Three steps we like are:

Start by putting your philosophy of pricing in writing. For example, “Our pricing will be fair to us and the customer, and will maximize gross margin dollars, while encouraging customer loyalty”.

Create the understanding among your team that selling on price alone is a formula for failure, and that the organization has costs to cover beyond just the cost of the merchandise being sold…. Those costs usually eat up the first 16-20 points of margin. Amazingly many salespeople don’t know that number! The notion of “we won’t be beat on price” is a nice slogan, but isn’t sustainable.

There is always someone willing to go lower. Instead, we recommend talking about fair pricing. Fair pricing is fair to both the customer and to your business. It’s the best you can do for the customer, while giving you the margin you need to remain a profitable business.

With the philosophy in place, management should determine the margins to be made on each category of goods being sold. When looking at the commodity categories, those margins need to be determined using replacement cost, not average cost. Using average cost basis has the effect of giving away the upside when you own your inventory below market value, and results in your price being too high when your inventory is above market, thus slowing the sell through of the higher cost material.

An area with great pricing opportunity is special order sales. Many yards miss out on maximizing profits on these sales. Since there are a lot of “one-offs” there is lack of price guidance in the POS, and often pricing is left purely to the discretion of the salesperson. Our view is that these could and should be at the high end of your margin range. Far more effort goes into selling special orders, and you must also make enough to cover the pain that results from mis-orders and cancellations. Margins in the 40% plus range are not unheard of for Special Orders… consider issuing guidance to your team by category. There is no need to go to vendor or sku level.

Several of today’s point of sale software programs (POS) have features that let management monitor pricing. Having a daily exception report based on a minimum margin is a great way to start. For example, one could have a report that finds only those invoices with margins below 15%. If reviewed daily, it’s possible to not only find errors, but intercede if one of the sales team has quoted a price that is below cost, or very low, and correct it before the order is shipped. As your team gets better at pricing, raise your parameter to 18%, and keep raising it until it reaches a level you are comfortable with.

Also, review your compensation plan for your sales team. Make sure it encourages the pricing mindset that you believe in. We see plans that are either exclusively or heavily weighted towards sales dollars. These plans encourage selling at lower prices. A much better approach is to pay on gross margin dollars, giving the team the clear message that higher margins will result in higher pay. Our favorite plans pay based on collected gross margin dollars, but that is for another article!

Everyone agrees that pricing is both art and science… most are good at the art, but the science is what pays the bills!

This article was written by Tom Ford, President and Partner at Impact 180 Consulting Group & Lumber Contacts Inc. Feel free to contact Tom at, [email protected].