Price First, Cost Last: The Five-Lever Bridge | EP6

Bill Canady: There's a slide I've seen in maybe sixty different companies, and it's always the same slide. It's the EBITDA bridge. The bar on the left is this year, the bar on the right is next year, and it's taller. And in between, there are five or six little floating blocks marching up the page. You know them, they're red and green, yellow sometimes. Each one's a different color, and each one with a label on it. Pricing excellence, commercial effectiveness, operational discipline, strategic sourcing. I'm sitting in the room and I ask I point to the third block, and I say, How many dollars is in that one? And there's a small silence that I've come to enjoy in a way that probably isn't very kind. Somebody says, Well that one's directional. So I ask the next question. Well, whose is it? Not what function? Not what what area? Which human being? Give me their name. A little bit longer silence. Now I want to be fair to that room because those people are not lazy and they're certainly not stupid. That slide took three weeks. Somebody stayed late on it. There are twelve tie tabs behind it, and every number in every tab ties. It went to a board, and the board nodded because the board sees a hundred of them this year and they've stopped reading them too. But that slide will not move one dollar of Ebada, no matter how bad you want it to. Not one. It's a picture of intention. An intention is not a lever. You cannot pull on a color. Okay, so let me start with the proof here. One point of price on $150 million of revenue, one point of price is one and a half million dollars. And here's the part that matters. It flows through to EBITDA Dye at roughly a hundred percent. Not 30, not forty, a hundred. Because the order already exists. The truck was already going, the part was already made. The invoice was already going to be cut. Nothing changed in the operation. The only thing that changed is the number on the paper, and you can execute it inside of a quarter. Now hold that up against the alternatives because this is the whole episode in one comparison. To produce that same one and a half million dollars out of volume at a 30% incremental contribution margin, you need five million dollars of new revenue. And that's if the new revenue is free, which it never is. Realistically, you need seven or eight and need three or four quarters to land it and you will probably add complexity on the way in. All right, to produce it out of cost in a business carrying thirty million dollars of SG&A you need to take out five percent of your overhead. In a middle market company, that's twelve to fifteen people. Two quarters to execute a year before it starts bleeding back. Same dollar, three completely different prices to buy. Now here's my promise by the end of the next half hour you'll be able to build your own EBITDA bridge, the five levers in the right order with a dollar figure and a human being named on every single line. This is important. And you will know which one to pull first and which one to pull last. Here's the plan, five levers in order. I'll walk you through all five, tell you why the order is an entire argument, and then give you this five five specific ways I watch this thing fall apart in real companies. This is a thousand day CEO. I'm Bill Canady Let's get into it. All right, we're going to start with the problem. Let's talk about why almost every CEO gets the order backwards. You're somewhere in the back half of your first year, phase two, you've done the segmentation, you know where the profit lives. You started retiring complexity, and now the sponsor wants a number. Not a story, a number, with a path attached to it. 10 to 12% EBITDA growth every year for the length of the hold. That's what the deal was underwritten on. Twelve is the new five. Remember we talked about this earlier. So you sit down to build the bridge, and I will tell you with a very high degree of confidence that what the first thing on your list is going to be cost. That's where we all start. It's always cost. Headcount, spin, freight, indirect procurement. That consulting contract nobody remembers signing. And I remember exactly why, because I did it too. So I get it. Cost feels like the only lever that lives inside of your building. Price feels like it belongs to the customer. Volume feels like it belongs to the market. Cost feels like it belongs to you. And when a board is squeezing on you, and they will, you reach for the thing you think you own. There's a second reason, and it's the more dangerous one. Cost is visible. Cost has a line on the P&L with a dollar amount printed to it. Revenue quality does not. There is no line on your income statement that says revenue we should have never accepted. So when you go out looking for the problem, you find it where the light is. Now here's the sentence I want you to write down, and the reason it's cost goes last on the bridge. you cannot know which costs are bad until you know which revenue is good. Bad cost is defined by the revenue it serves. Think about what a cost first program actually does inside of a real company. You announce a 15% reduction in indirect spend and a hiring freeze. Now, where does the organization go to find it? It goes to where the spending is visible and where the fight is smallest, which means it goes to the functions that serve your biggest, cleanest, most profitable accounts because that's where the volume is. That's where the people are. That's where the spending actually shows up. Nobody cuts the quad four tail because the quad four tail doesn't have a budget line. It doesn't have a department, it's four percent of your revenue distributed evenly across eleven functions in slivers of Tuesday afternoons. It's invisible. It survives every cost program, every run, because you can't cut what you don't see. So six months later, here's your business. You took 12 people out of the group that serves your top quartile. Your service level to your best customers has dropped, and believe me, they feel it because your lead time went out. And the bottom of the book, the accounts eating 27% of your capacity, To produce 4% of your revenue is completely untouched. Still calling, still expediting, still getting a 14% discount, somebody granted in 2019. You didn't cut costs, you cut capacity that was serving the profitable core, and you paid for the privilege. This is not hypothetical. That is the most common self-inflicted wound on the entire middle market. I can't tell you the amount of times we've said you got to get out cost, and they come back with just we're getting rid of people. We don't care for it, which they probably should do, right? They're underperformers, but they don't come and look at and say, where are we winning and losing? And it happens because a competent person went looking for savings in the only place the accounting system was willing to show them. Now let me tell you why this matters beyond the operating year. Because I want you to think about the exit while you're doing this. Enterprise value is EBITDA times a multiple. Two terms. The multiple re-rates slowly. And it re-rates in the phase three and phase four of the business as it de-risks. We'll spend a whole episode on that at the end of the season. But the first term, EBITDA is not something that happens to you. It is a construction. It is built out of a specific number of moves, each one with a size and an honor. The bridge is how you move the first term on purpose of instead of hoping. Now here's the rule that governs the entire thing. I'm going to give it to you now and I'm going to repeat it because it's the only enforcement mechanism this framework has. If a line on the bridge does not have a dollar figure and an owner, it is not on the bridge. Not we'll firm it up. Not that one has directional. It's off. Delete the block because a bridge with three real lines and two blank spaces is honest, and you can manage honest. A bridge with six colored blocks and two real numbers. Is a document you will spend a year defending instead of a year executing. All right, here's the framework and how we do it. There's five levers: price, mix, share gain, M&A, cost, in that order. Let me take them one at a time, and I'm going to spend the most time on the first one because that's where the money is and that's where the fight is. Lever one, price. Price is first for two reasons, and they're both arithmetic. One, flow through. A dollar of price is roughly a dollar of EBITDA. No other lever on this bridge does that. A dollar of new revenue is 30 cents. A dollar of cost taken out is a dollar, but it takes three-quarters and it takes people. Two speed. Price is executable in a quarter. You're already sending those customers' invoices. Remember, the mechanism exists. Now, most CEOs here price. And they immediately think price increase. Then immediately think, what about the four accounts? Who will scream? Put that down. That's not where the money is. The money is in your corridor. Here's what a pricing corridor is. Take one SKU, one, the same part number, same specification, same box. Now pull every account that belongs in the last 12 months and calculate the net price each one actually paid. And I mean net after list, after contract discount. After the volume tier, after the annual rebate, after freight allowance, after the marketing co-op, after whatever a district manager gave someone in a parking lot. Landed net per unit. It's important. Now sort them lowest to highest and put them on a chart. That spread, the distance between your best for price count and your worst price account on an identical product is your corridor. And in every business I've ever done this in, it is between 15 and 30 points wide. 15 and 30 on the same part. I've never once seen a CEO look at that chart and not go quiet. Then comes the argument, and you need to be ready for it because it always arrives in the same shape. Somebody in the room, usually somebody very good, usually the VP of sales, will say, Bill, that's volume. The guy at the bottom of the chart buys 10 times what the guy in the chart buys. Fine. Let's test it. Take the same chart and plot volume against next price. Every account, one dot. It's the story were true, you'd see a line. Big buyers cheap, small buyers expensive. A clean downward slope you could put a ruler on. You will not see a line. You will see a cloud, a big jumble of dots. You will find a customer buying 11,000 units a year, paying more than a customer buying 900. You will find two accounts of nearly identical side, 18 points apart. And when you go pull the file and find out why, the answer is never a volume commitment. The answer is always that in 2017, a salesperson was trying to close a quarter or a national accounts manager matched a competitor quote and the competitor never actually made. Or somebody inherited a contract and just kept renewing it. The scatter in the finding that ends the argument in the room. That scatter does it, not your opinion, not a benchmark. Their own data on their own products. Chart anyone can read. So, what do you do with it? You do not try to move everybody to the top of the corridor. That's how you lose accounts and deserve to. You take the bottom third of the corridor and you move it towards the medium, not at the best price, to the medium of your own book. And the reason that conversation works with a customer is that it's not a price increase, it's a correction, and you can show them exactly where they sit relative customers like them. Closing the bottom third of the corridor towards the medium is typically worth one to three points of margin. On $150 million, that's one point. That one point is a million and a half, and three points is four and a half million. It's real money. That is your first bridge line, dollar figure, owner's name, usually the commercial leader with the CEO holding the measurement. Second lever, mix. Mix is second, and it's the most misunderstood lever on the list. Mix is not pricing. Mix is selling the same total dollars with a different composition. Same revenue, different profit profile. The move, a point of volume from quad four into quad one, and nothing about your price list changing, nothing about your cost structure change, and your EBIT goes up. We like it. Here's the thing people get wrong. They treat mix as a pricing problem. So they hand it to finance, and finance builds a beautiful analysis showing which product and segment should grow. And then nothing happens for 11 months. Mix is a sales compensation and sales coverage question. That's it. Your sales force is selling exactly what you're paying them to sell in exactly the accounts you've assigned them to cover. If your comp plan pays on revenue, you will get revenue. And if you get it from wherever it's easiest to find, which is generally the bottom of the book, because the bottom of the book always says yes. So the mixed line on your bridge has two mechanics underneath it, and neither of them is the spreadsheet. change what plan pays for, gross margin dollars or quad one or quad two volume specifically. Two, change who covers what. Take your best three reps off accounts that are already loyal and low margin and put them where the profit lives. Owner, the commercial leader again, usually with HR on the comp plan. That's who owns this thing. And put a date on the comp plan change. Good lord, they'll drag it out forever. They don't want to do it, or they're going to do it immediately. Got to be thoughtful and they gotta go through it because a comp plan has an annual cycle. And if you missed it, you lose a year. It's hard to do it in the middle of the cycle. People will get bent out of shape about it. Third level is all about share gain. It's third, it's real, but it's slower, and it comes with a condition attached. Share gain means taking business from a competitor in the segments where you already make money. Not new segments, not new geographies. The places you're already good where you have a right to win. The reason it's third is the reason it's third everywhere in this system. You have to have earned it. If your right to grow ratio is under threshold, share gain does not convert. You will win the account and then serve it badly and then discount it, keep it. And 18 months later, you'll have more revenue at the same EBITDA in a tired organization. This is important here. Share gain line on the bridge are the ones most likely to be adjectives. Win rate improvement. Kill it unless somebody can tell you which competitor, which accounts, how many dollars, buy when, and whose name on. The fourth lever, MA, everyone's favorite topic. It's exciting. It's fourth, and I want to be careful here because MA is the lever every sponsor loves, and it's the one most likely to end your tenure. MA works absolutely. You need to do it. Buying revenue at seven times and selling inside a platform. At 11 is a real value creation, and I've done it many times. But it only works after the operating system is installed, after segmentation, after the complexity work, after you have a cadence that actually runs. If you buy a company before that, here is what you've done: you've brought in more complexity and you've imported it and you paid a premium to do it. You now have two chart of account structures, two ERP systems, two pricing books with two different corridors. Two quad four tails, I mean it goes on and on and on. And a management team that was already at capacity and now running an integration on nights and weekends. Good luck with that. The tell is simple. If you cannot currently produce a segmented PL for the businesses you already own, you are not ready to buy another one. Fifth lever is cost. Last. Full stop. And notice what happens when it's last. By the time you get here, you know which customers are profitable, you know which products are profitable. And you know which of your capacity is serving good revenue and which is serving the tail. So now when you go to take cost out, you're taking out the cost that serves revenue you've already decided you don't want. take costs out where you don't want the revenue and put the cost structure in where you do want it. This is not a cost reduction program. That's arithmetic consequence of the four decisions above. It's specific, it's defensible. And it doesn't come back because the work that generated it already gone. Run cost first, you cut muscle. Run cost fifth, and you're cutting something that's already dead. Two things hold this together. The rule, one more time, is if a line on the bridge does not have a dollar figure and an owner, it's not on the bridge. One page, five lines, and a number and a name on each. If your bridge doesn't fit on one page, it isn't a bridge. It's a list. It's a wish list with a chart on it. And the cadence, the bridge gets reviewed monthly, not quarterly, monthly. Lever by lever, owner by owner, each person presenting their own line with what was committed, what landed, and what the variance is, and what the countermeasure is if it didn't land. 20 minutes, same order, every month, price first. And do it monthly, or it's just decoration. We're back to theater here, right? Quarterly reviews mean a lever can be off track. For 90 days before anybody says the word out loud. 90 days is a third of your operating year. Monthly means the miss is 11 days old when it hits the table, and there's still time in the year to recover it. All right, we're moving now to the plan. Three moves. The first one you can start this week, and it's the one that changes the conversation in your building. First move: build the corridor chart that we talked about earlier on your single highest volume SKU. This week, One product, the one you ship the most of. Pull every account that bought it in the last twelve months. Calculate the net price per unit after every discount, rebate, allowance, and program. Sort it low to high, put it on one chart, then add a second chart. Volume on one axis, net price on the other. One dot per account. Two charts, one product. Your analyst can do it in three days if the data is clean and nine if it isn't. And if it takes nine, then you learn something new there. Do not send it around, walk into the room with it and put it on the wall. This is the chart that has to be seen, not forwarded. Then find your bottom third and size it. If those accounts move to the median of your own book, what's the number? That's your first bridge line, and you now have it in dollars. Second move, put the five levers on one page with a dollar figure and a name each. One page, five rows, price, mix, share, MA, cost. Three columns, the number, the owner, and the date. Fill in what you actually have. If share gain is blank, then leave it blank. a bridge with three funded lines and two honest holes is worth more than a bridge with five colored blocks because you can manage the first one and you can only defend the second. And when you assign the owner and it is one person, not a function, not a team, don't say sales. Say it's Bob, not a steering committee. One name, one number, the person who presents it every month. Is the person who owns it. The third move, put the monthly bridge review on your calendar for the next six months Not, we'll get it scheduled. Six invitations, six dates, one hour each, same slot every month, sent while everybody's still sitting there. I'm serious about this, and it's not a productivity tip. The single most reliable predictor of whether a bridge delivers is where the first six reviews existed on a calendar before anyone left the room where the bridge was built. If it goes on the calendar later, it goes on the calendar never because by then there's a customer visit. The five ways this fails, I've watched this framework work and I've watched it fail. And the failures are not creative. There's five of them. First one, adjectives instead of commitments. Pricing, excellence. Commercial effectiveness. If you cannot state the line with a dollar amount, it's not a commitment, it's a mood. Test, see if you can the owner can say the number out loud. Without looking at the slide. Do they know their number? Second one, benchmarks instead of your own company's data. Somebody brings a study showing that the companies in your sector capture two points of price. That's interesting, and it is worth exactly nothing because it doesn't tell you which of your accounts to call on Monday. Your corridor chart does. Build the price out of your own transactions or don't build it at all. Third one, orphaned levers. Align with the function next to it instead of a person. Sales, operation. Nobody's ever been held accountable for a line item owned by a noun. If two people own it, nobody owns it. Fourth, cost first. We've covered this one, but it's the most expensive of the five, so I'll say it again. You cannot know which cost are bad until you know which revenue is good. Cost first means you cut capacity that serves your profitable core because that's where the visible spend is. Cost fifth. It stays fifth. Five, no monthly measurements. The bridge gets built in March and looked at again in October. In October the news is bad, and there are eleven weeks left in the year, which is not enough time to do almost anything, except prepare yourself to explain to the board about what the heck went wrong and what you're doing about it. You'll be getting aggressive. When time is working, it's boring. Same page, same five rows, same order, twelve times a year. Somebody's line is behind, and they say so in the first sentence, and then they say what they're doing about it. Takes about four minutes. When it's theater, new deck, the blocks have new names. Someone added a sixth lever called digital. Everything's digital or AI. Nobody in the room can tell you what the price line was supposed to deliver this month because it was never a number in the first place. Three things worth keeping. First is the order is the argument. Price, mix, share gain, MA, and cost. Price first because it flows roughly through at 100% and execute in a quarter. One point on $150 million is a million and a half dollars. Music to our ears. And it costs you next to nothing but nerve. Costs last because you cannot know what costs are bad until you know which revenue is good. Every other order cuts muscle and it's called and calls it discipline. Two, your corridor is 15 to 30 points wide on the identical product. It is not explained by volume. Closing the bottom third towards the median is worth one. To three points of margin. That chart exists in your business right now. Somebody just got to go build it. Third, a line without a dollar figure, and an owner is not on the bridge. The bridge is reviewed monthly, lever by lever. You can do it in staff, you can do it in MORs, MBRs, however you want to do it, but it's got to be monthly versus decoration. Here's the framework I want to leave you with. Enterprise value is EBITDA times the multiple. Everybody in this business talks about multiple like it's weather. Something that happens to you depending on the market and the banker and the mood of the room. Fine, but the first term isn't weather, the first term is five decisions sized in dollars, owned by five people, checked 12 times a year. That's the whole difference between building value and hoping for it. Luck is the residual of design, and the bridge is where you do the designing. Next week we'll take a look at the other half of this because once you know where your profit lives and what your levers are worth, you still have to build a budget. The way every budget in the middle market gets built. Last year plus 5%. And last year plus 5% is how you lock in a very bad decision you've ever made. It's zero up. Rebuilding a budget from zero, the segmented PL, and moving people to where the profit actually is. I'll tell you about $310 million business that had zero up finish by day 270. That's why they only work because of the order it was done in. If you want a bridge template and a corridor worksheet, You can go find these things inside the 80/20 Institute. Hope you come sign up. Think you'll really enjoy it. Remember, it just takes about 30 minutes to get through this stuff. I'm Bill Canady and for the love of goodness, go run your number.