As the end of the year approaches, many of us are deep in budget planning and strategizing for the new year. However, one often-overlooked opportunity for manufacturers are the profits leaking from pricing inefficiencies. By conducting a year-end price audit and profit margin analysis manufacturers can identify 2 to 5% of revenue that can drop directly to your bottom line. This is a great resource to have in your back pocket to offset unforeseen challenges or fund strategic investments in the coming year.
Learn more about profit leakage and five main reasons why fixing price leaks is your secret to success for 2025. Future posts will cover how to use price audits and margin analysis to optimize your manufacturing business.
Why Profit Leakage Matters
Profit leaks are small, often overlooked inefficiencies or missed opportunities across your manufacturing business in pricing, production, and billing. With thousands of SKUs across hundreds of customers, these profit leaks add up quickly.
Examples of price leakage may be:
- Inconsistent pricing across customers, channels, and territories.
- Excessive discounting, credits, or returns that do not fully align with customer value or purchasing patterns.
- Out-dated data and stagnant price lists and product costing.
- Undisciplined pricing processes and practices.
- Slow moving products to discontinue or price more aggressively.
- Hidden back-end leaks such as rebates, terms, credits, and freight costs that impact customer profitability.
For mid-sized manufacturers, these hidden profit leaks can add up to substantial sums. Fixing these issues will lead to higher profit margins to reinvest in additional resources or weather unexpected market fluctuations.
The Benefits of Fixing Margin Leakage
Does your profit or price management feel reactive?
This may be a symptom of a bigger issue. By identifying the root causes, your manufacturing business can benefit in multiple ways:
#1: Understand drivers to Pocket Price Margins
The pocket price margin is the actual profit a manufacturer makes after accounting for all associated costs and sales reductions. It includes the backend discounts, rebates, credits, returns, sales commissions, payment terms, freight costs, and other expenses. It is ultimately the net profit that ends up in your company’s pocket and provides the most accurate picture of the health of your business.
Now is a great time to start using this granular metric to measure profitability at Customer, Sales Territory, and Product SKU levels. A best practice is to create a waterfall analysis that breaks each margin driver into buckets and graphically shows how List Price steps down to a Pocket Price Margin. Visually these are great illustrations to look at a specific account or territory. However the challenge is making this actionable across a complex portfolio of SKUs and customers. It can be done with spreadsheets or using the solutions from ProfitMatrix to quickly summarize opportunities.
#2: Spot Hidden Opportunities
It is very likely the prices and margins you set at the beginning of the year, or even 3 months ago, are outdated due to fluctuating input costs from inflation (or deflation) and changing market dynamics. Here is how you can find these hidden profit leaks:
- Create a “Since When” list: Start with identifying a bucket of products or customers with no price changes “since when”, such as within the past year or quarter. Next filter this list down to only those items with increasing costs. You will now have a list of items with decreasing Pocket Price Margins. This is a good starting point to take action to offset leaking margins.
- Use your biggest levers to your advantage: In some manufacturing businesses I’ve seen as high as 85% of profit driven by the top 15% of customers and skus. Or the cost structure for certain products was heavily dependent on raw materials. Conducting a velocity and segment analysis can identify where small adjustments could yield significant results. For instance, increasing prices (or reducing costs) even slightly on high-volume items can lead to significant gains. Remember, a 1% change in price can drive up to 10% impact to your profit depending on your cost structure.
- Act on outliers: Focus on the products or accounts with unexpectedly low margins. Are these low-margin items critical to your overall portfolio, or can they be adjusted, repriced, or even eliminated? Are there clusters of low-margin customers where you should step back and look at your go-to-market approaches to find more effective ways to service that segment? These low-volume, low-margin items are opportunities for price increases or SKU consolidation. Understanding the root causes for excessive Credits and Returns will uncover hidden issues with service or quality to correct to improve your bottom line.
- Freight capture rates are another great metric to evaluate to understand how much your freight fees are offsetting actual freight costs. Updating and communicating sales policies now to roll out at the start of the new year enables your business to reclaim these costs quickly and efficiently.
- Clear out the slow movers: Low inventory turn products take up valuable warehouse space as non-productive inventory. Eliminate these SKUs and re-stock with fast movers or higher margin products to ensure you’re not missing out on sales. A year-end promotion or sales incentive can help spur demand for these slow moving products.
- Benchmark discounts by sales professional: This exercise can be eye opening if you have not looked at this level of detail previously. A simple pareto graph with each sales pros total sales reductions compared to the territory average may shine light on over-discounting practices. It can lead to coaching conversations to understand why this behavior occurs, ensure incentives are aligned, and seek alternative approaches if their peers are capable of winning at higher prices.
#3: Strengthen Customer Relationships
It may be counterintuitive, but your key customers may be under attack from competitors. With uncertainty in demand and changing input costs, it is very likely market pricing has shifted. No one wants to be caught flat footed when a key customer demands lower prices and backs it up with a lower priced competitive quote. The customer feels betrayed and justifies the switch despite a great relationship. The sales professional fears losing their commission check and will insist on dropping price to “save” an account.
Auditing pocket price margins now allows you to spot misaligned discounts or price points that may be eroding customer trust. It may uncover unknown costs dragging down the account that can be corrected or over-discounting without justifiable volume. Margin analysis enables you to sit down with your sales and operations teams now before the start of the year. Use this meeting to review in detail the profit drivers, strategic importance, and options to maximize margins while also retaining key customers.
The organization is now prepared to defend prices with transparency and specificity on the cost drivers. These drivers can also become negotiation points where your trade-off is to reduce quality, delivery service, or technical support if a customer insists on lower pricing.
#4: Create a Data-Driven Culture
Disciplined pricing can be one of the toughest cultural shifts to make in your business, however your future depends on it. Using real-world data that shows low margin outliers and disparities between price and volumes sets the table for open discussions with the sales and operating teams. To achieve disciplined pricing it requires clear roles, policies, and procedures. Without these in place you risk falling backwards to old habits and leaking margin. It creates alignment and provides the “why” behind any changes in process or margin expectations. Using data-driven margin analysis also enables you to define measurable KPIs that you can align your sales incentives. This is how it can help you stay competitive while protecting your bottom line.
#5: Improve Processes & Operational Efficiency
Fixing profit margin leakage not only boosts profitability but also streamlines processes and enhances pricing efficiency. Addressing root causes often uncovers inefficiencies like poor communication between sales and pricing teams, lack of granular and accurate data, lack of standardized workflows, and overreliance on manual or siloed systems. By resolving these issues, your manufacturing business can establish clearer customer policies, rules based triggers, and reduce delays in implementing updates. The result is a more efficient, collaborative team with streamlined pricing decisions and improved pocket price margin performance.
Start the New Year Strong
A year-end pricing audit and profit margin analysis might sound like an intimidating process, but the rewards are well worth it. By uncovering hidden profits, you’ll set your manufacturing business up for success in the new year with a clearer budget, stronger margins, and better insights into your operations.
Don’t wait until January to find these opportunities. Start your audit now, and make 2025 the year you unlock your business’s true profit potential.
Want to learn more?
Schedule a consultation to learn how ProfitMatrix can help you uncover hidden profits and optimize your pricing today!