INSIDE MARGIN

David Merrefield

Many wholesale executives attending this week's Midyear Executive Conference of the National-American Wholesale Grocers' Association at The Greenbrier will recall an earlier NAWGA meeting at which the concept of "inside margin" got quite an airing. It was in March 1993, at NAWGA's annual meeting in San Francisco, that the perilous extent to which the wholesale industry had become reliant on inside margin was mentioned in the context of a formal study of wholesaling. It became quite the conversational theme at the meeting too.

No doubt everyone at the meeting in San Francisco had known for years all about inside margin. But what set up renewed chatter about inside margin was the release of a study at the conference that cited exact margin-component numbers for all to see. The study was conducted for NAWGA by Arthur Andersen & Co.

Inside margin, in very broad terms, is the portion of a wholesaler's profit margin generated by some activity other than selling and delivering products to client stores' loading docks. The study found it to be considerable: The weighted average inside margin at the six wholesale companies studied by Andersen amounted to 34% of net profit. The balance of profit came from various conventional "system-generated revenue" sources.

The study also defined components of inside margin, and the relative contribution of each to net operating revenue: Forward-buying revenue , 15%; program income or revenue sharing, 12%; slotting fees, 4%, and diverting margin, 3%.

Since wraps first came off those numbers, two and a half years have passed, so let's take a look to see if the world of inside margin has changed much.

On the front page of this issue of SN is a news feature based on a survey of wholesaler executives, all of whom were asked a question roughly to this effect: "What cost-cutting changes, or other initiatives, are you undertaking to boost competitive abilities of independent stores you supply?"

Some of their replies went directly to inside margin, some indirectly.

But, at bottom, most said they are implementing incentives intended to assess costs to those generating costs, with the long-term view of sparking the interest of everyone along the distribution chain to cut costs. The whole idea is to reward systemwide efficient behavior, the result of which should be to move the distribution industry toward making money largely by efficiently buying, selling and delivering products to stores -- and away from reliance on inside margin.

Here's a brief summary of what executives of a few companies told SN for this week's news feature: · At Fleming: "We're no longer using inside margins; whatever money manufacturers give us goes 100% to customers." And: "We want customers to feel like they own the warehouse and whatever costs they move to it, they pay for. If they pull costs out, they save those costs as well."

· At Spartan Stores: "We're adopting a cost-plus program that gives members a menu of services so they pay only for services they use. We realize there are a lot of costs that can be reduced, but we also realize we must reduce them together."

· At Roundy's: "We've begun testing continuous replenishment at the retail level with two large customers which will allow them to ultimately reduce inventory." · At Super Food Services: "We're reviewing relationships with customers, delivery schedules and market and merchandising plans. What's important is that we support each others' business." To me, these excerpts show that the industry is speaking with a different voice than the one heard at the time of the initial dust-up about inside margin.

In March 1993 the underlying message from wholesalers to client stores was something like this: "We will give you virtually any service level or price structure you demand since we need to retain your business. In exchange, don't ask whether keeping your business at any cost makes economic sense; it doesn't, but we're not worried since we have inside margin too."

Now wholesalers are saying to the stores they supply: "You are our business partner. You are not only responsible for paying your share of costs you confer on us, but you should also help us cut costs from the whole distribution process. And, as you help reduce costs, you are entitled to receive benefits in the form of reduced fees, lower product costs and passed-along allowances."

To the extent the latter outlook comes to represent how most wholesalers and client stores interact, it will be unmitigated good news for those parties, and maybe even happier news for manufacturers.