Calculating Dealer ROI

This post is co-authored with my good friend Nishit Ganatra who is currently the ASM of Punjab, J&K for CavinKare. He interned with me at L'Oreal and graduated from XIM, Bhubaneshwar. He enjoys troubling the Pakistani army by attempting to cross over the border from time to time and is giving their economists nightmares as he contemplates to sell Chik shampoo across the border owing to the kindness of his boss.You can find him here.

So probably the first thing that your distributor/dealer/stockist is going to tell you when you go to him for the first time is “Sirjee, ROI nahin baith raha hai”. What this simply means is that he is challenging you to calculate his return on investment.

This is sort of a monthly exercise – he knows that he is getting an ROI, else he would not be in the business. What he simply needs is some ego massage so that he gets an ILLUSION that he is in control of something when he is not – your rates are fixed, your schemes are fixed, and so are your claims. While ROI is something that they teach us in first day of B-School, calculating dealer ROI might be a different ball game altogether as he is a weasel who is going to try different permutations and combinations to get the better of you. Do this properly with him, and he (and you BDE/TSO who is twice your age but earns half as much) will respect you forever.

The equation is simple – Return/Investment, Return = (Earnings – Expenses).

The trick lies in realizing what earnings, expenses and investment involve & it is here where the dealer uses his tricks.

Let’s put down the formulae first:

a.       RoI or Return on Investment = Returns/ Net Investment

b.      Returns = Earnings – Expenses

c.       Earnings = Gross Margin that the dealer enjoys (Usually 6% - 8% in FMCG companies)

d.      Expenses = Direct Expenses + Indirect Expenses

1.       Here is where the first trick lies, Calculating Expenses:

This arises from the fact that the dealer in question is not dealing with just 1 company, he instead has 4-5 or even more number of companies that he is dealing with. Hence there are some resources that he is exclusively using for a particular company for eg. Sales Man and similarly many resources that he is sharing among the companies eg. His godown space, accountant, supply units etc.

Please note there is no thumb rule to it as there might be (and more often than not, will be) cases where even salesmen are being shared among 2 or more companies, and there will be one guy who would be the accountant-cum-manager-cum-supply wala etc. This is where the concept of direct and indirect expenses comes in.

Hence his expenses are split in to 2 parts i.e. Direct & Indirect Expenses

Direct Expenses are those that the dealer incurs exclusively for the company concerned.

And Indirect Expenses are those that the dealer incurs in totality for the companies for whom the resource/s is/are being shared.

The only rule in calculating expenses is that you need to take into account the part of expenses that he is incurring for your company alone. We will see how we do it below.

2.       Similarly the second trick lies in properly calculating the denominator, i.e Net Investment.

A dealer’s investment comprises of 3 parts : Average Stock that lies in his godown, Average Market Credit that he extends & Average Claims Outstanding,

Hence,

Investment = Avg Closing Stock + Avg Market Credit + Avg. Claims Outstanding

Here the usual suspect where one may go wrong in calculating Investment is the first variable i.e. Average Closing Stock of the dealer.

A layman would take the month-end closing stock as the average closing stock for the dealer, or worse if you do the mistake of asking the dealer what his closing stock is, the beast would tell you a figure which will be his all time high closing stock in a month.

The typical trend in FMCG is that majority of Pushing, also known colloquially as “thokna” (Primary) and Pulling (Secondary) happens in the last week and therefore the last week is not a true indicator of the entire month’s activity then why consider last week’s closing stock as his month’s closing stock. (To clarify, primary is what your company bills to the dealer and secondary is what your dealer bills to the retailer)

Confused?, we will deal with it with simplicity. Consider this as the trend of Primary & Secondary for a dealer in a 4-week cycle of a month

WEEK	OPENING STOCK	PRIMARY	SECONDARY	CLOSING STOCK
1	5, 00,000	50,000	1,00,000	4,50,000
2	4,50,000	1,00,000	2,00,000	3,50,000
3	3,50,000	2,50,000	2,50,000	3,50,000
4	3,50,000	5,50,000	4,00,000	5,00,000

The above table is how a dealer’s inventory in a typical FMCG set-up would behave like, i.e. majority of activity happening in the last week and hence one would be wrong in taking 5,00,000 (Week-4 Closing Stock) as the average closing stock for that dealer in that month.

The better way to do it is to take an average of all 4 weeks’ closing stocks. In this case it would come out to be as : ( 4,50,000 + 3,50,000 + 3,50,000 + 5,00,000) / 4 which equals to 4,12,500 which is lesser than the previous  result and hence his investment goes down and RoI goes up.

Enough of this gyaan now, let us get straight down to calculating a sample ROI

Premise:

Mr. Atul Mittal is the proud owner of his distribution firm M/S Bhagat Ram Jwala Prasad. His firm deals with distributing 4 companies in total of which ABC Pvt. Ltd. Is one for which we need to calculate the RoI. The firm has 1 dedicated (exclusive) salesmen working for ABC Pvt. LTd. with a monthly salary of INR 6,000/- per month per salesman. Apart from this, the firm also has an accountant-cum-manager with a monthly salary of INR 5,000/- per month, pays a monthly rent for the godown which comes to INR 5,000/- per month, incurs electricity & miscellaneous costs (supply units, chai-paani etc.) to the tune of INR 5,000/- per month. Other expenses such as his son’s education and his daughters marriage which your dealer would want to include are not to be included.

All figures are assumptions

Monthly Business (Turnover) inclusive of all 4 companies: 20,00,000/-;

Monthly Business (Turnover) of ABC Pvt. Ltd. : 8,00,000/-

ABC Pvt. Ltd.’s Company Margin: 8%

Average Market Credit for ABC Pvt Ltd. Is 10,000/- INR

Average Closing Stock for ABC Pvt. Ltd is worth 2,50,000/- INR

Average Claims Outstanding in ABC Pvt. Ltd. Is worth 10,000/- INR.

Hence going by the formula:

RoI or Return on Investment = Returns/ Net Investment

Returns = Earnings – Expenses

Earnings = Gross Margin that the dealer enjoys (Usually 6% - 8% in FMCG companies)

Expenses = Direct Expenses + Indirect Expenses

Let’s calculate each element one by one:

Earnings = Gross Margin = 8% of monthly turnover of ABC Pvt. Ltd. which is = 64,000/-

Expenses = Direct Expenses + Indirect Expenses

Direct Expenses = Salary of Exclusive Salesmen = 1*6000 = 6000 per month

Indirect Expenses  for ABC Pvt. Ltd.=( Contribution of ABC Pvt. Ltd’s Turnover to Total Turnover) * Total Indirect Expenses

Total Indirect Expenses = Godown Rent + Manager’s Salary + Miscellaneous Expenses = 5,000 + 5,000 + 5,000 = 15,000/-

Contribution of ABC Pvt. Ltd’s Turnover to Total Turnover = 8,00,000/20,00,000=40%

Hence, Indirect Expenses for ABC Pvt. Ltd. = 40% of 15,000/- = 6,000/-

Therefore Total Expenses = 6,000 + 6,000 = 12,000

Hence Returns = Earnings – Expenses = 64,000 – 12,000 = 52,000

Net Investment = Avg. Closing Stock + Avg. Market Credit + Avg. Claims Outstanding = 2,50,000 + 10,000 + 10,000 = 2,70,000

Therefore RoI = Returns/Net Investment = 52,000/2,70,000  = .1925 or 19.25%