Discover how the capable to promise paradigm is yielding to profitable to promise, and how it could improve your financials.
Picture the scene – your top sales manager gets news of some new business. It’s a little below your usual profit margin, but the deal could be good for the company. However, fulfilling it would stretch the supply chain to the point where you need to pull out all the stops. As it could potentially lead to reduced safety stock, air freight of stock and overtime at the factory.
Sound familiar? How easy is it for you to quantify whether the business is worth going after? It might be physically achievable, but ultimately, is it profitable to do so?
For years, capable to promise has been the dominant paradigm for businesses embedded in the supply chain. In this mode of thinking, the goal is to ensure that your company has both the inventory and the capacity to fulfil an order.
On the face of it, it seems like a sensible strategy. You only want to commit to business opportunities you can realistically deliver. But this equation is missing something important: the effect on profitability. And that’s where things often go wrong.
Fundamentally, capable to promise is all about the customer side of the relationship. It’s about whether you can deliver on time according to their terms. It says nothing about what you get out of the transaction. Taking them on could be profitable for your business, but you don’t know that for sure. It might be the deal of the century. Then again, it could be a disaster.
The Need For A Better System
In this article, we propose a new paradigm: profitable to promise. This model draws on integrated business planning – something we’ve been pushing for years – pulling together both operational ability to fulfil orders and financial objectives. After all, the primary reason you are in business is to make healthy returns. And you can’t do that if your analytical framework is dysfunctional.
Capable to promise determines whether delivery will be possible using a finite-scheduling model. The goal is to take into consideration all your production and inventory constraints so you can figure out whether you can fulfil an order. For this reason, it is a purely operational tool. Just like an employee rota, it tells you who is going to be in the office and when, but it provides no insight on whether one particular shift pattern will make you more money than any other.
That’s not to say that it is without merit. From the customer’s perspective, the capable to promise model is helpful because it tells them when they can expect to receive their orders. Furthermore, it matters to you too because it gives you a better sense of when you’ll be able to complete the delivery, helping you avoid breaking your delivery-date promises.
But the system is missing a trick. You might have a very good idea for when you can make delivery, but you might not have a clue about whether you can do so profitably.
And this fact is why your business needs to progress from the capable to deliver paradigm. Essentially, you’re making decisions about whether to take on business blind. Operational imperatives are trumping financial ones, leading to inefficient resource usage and damage to your company’s bottom line.
Profitable To Promise: A Real Supply Chain Revolution
Given our discussion so far, profitable to promise (PTP) seems like a natural next step in the evolution of supply chain management. Instead of just using tools that let you work out whether you can make a particular delivery date, PTP tells you whether you can do so profitably. If you can’t, it isn’t worth your time, prima facie, taking on the business.
Fundamentally, capable to promise and profitable to promise are asking different questions. The former is saying “can I take the order?” while the latter is saying, “should I take the order?” See the difference?
As a senior enterprise leader, you can often feel under extreme pressure to take on large business opportunities, even if you have personal misgivings about them. Refusing revenue seems politically impossible, especially when capable to promise modelling shows that you can fulfil the order.
Now think about how much more confident you’d feel about rejecting an order if you had accurate forecasting models showing your company losing money. In that situation, you would have quantifiable evidence you could point to in defence of your position.
The Opportunity Cost Of Taking On Business
Large, unexpected orders cause all sorts of problems for businesses embedded in supply chains. Often, you’ll find your enterprise creaking at the seams, incurring additional expenses you would never face under normal operating conditions.
- Overtime for factory workers paid at a higher marginal rate
- Machinery breakdowns for lack of maintenance or regular servicing during high-volume runs
- Increased airfreight costs that attempt to ship goods to their destinations in time
- Variations in yield quality
- Problems with inventory planning
- Difficulties delivering other customers’ orders
- Difficulties with storage – if it is a large order, the customer will likely need somewhere to keep it before delivery
At present, airfreight costs are going up because of delays due to coronavirus. Data suggest that rates out of China rose by more than 15 percent in October as everyone scrambles to make use of the available resources.
Profitable to promise is about more than merely figuring out whether one customer’s order is more profitable than another’s. It’s about figuring out what the enterprise-wide ramifications of taking on a particular client will be, and how it will affect the bottom line.
And this is where the complexity of this new paradigm becomes apparent. PTP gets you to ask how meeting the needs of one customer will affect your relationships with another. It allows you to weigh up the opportunity cost of not taking the order compared to the situation in which you do. With it, you can appraise whether it is worth using your space capacity, or whether you’re better off leaving resources idle.
Note that in some situations, it’ll be worth incurring the costs listed above to fulfil an order, even if doing so harms your relationship with other customers. Similarly, working machinery overtime might not seem like a great idea from a maintenance perspective. But once you factor in all the costs you think you might incur; you could find that you make more money overall by running it over time and damaging it. Compare these insights to those you get under capable to promise, and you soon see the difference. Under CTP, you have no idea whether you stand to gain financially. In PTP, you do.
When you use PTP, every actual and potential client has a margin associated with them. Because of this, the system allows you to trade-off customer service for profitability, irritating some customers while delighting others. Thus, in a sense, it puts you back in control.
It’s worth noting that the system also allows you to allocate your resources more efficiently, according to client needs. By using the profitable to promise paradigm, you’re effectively creating a situation in which customers are bidding for your scarce resources. Those with the highest consumer surplus get served first, and everyone else has to wait.
The best thing about PTP is that you can apply it more broadly than single orders. It is also applicable to your marketing efforts, suppliers, category seasons and assortment plans. Recall that before we said that PTP is all about answering the question, “should I take this order?” When you apply it more generally, the question becomes, “should I choose one plan over another?” Because PTP defines profitability as a target metric, it allows you to assess the opportunity costs of all your operational possibilities. And that’s what makes it so compelling.
Is Profitable To Promise A Good Fit For Your Enterprise?
Companies need to determine internally whether PTP is a good fit for their enterprises. Here are some steps that you may wish to undertake.
Determine Whether Your Supply Chain Is Complex Or Flexible
PTP is all about assessing the opportunity cost of orders and plans. Thus, it only usually makes sense in the context of flexible and complex supply chains. Flexibility is a necessary condition for PTP because you need to be able to adjust which clients you serve first using your available resources (and aren’t locked into legal, contractual obligations). Complexity is a necessary component because you need to be able to weigh up competing plans.
Determine Your Visibility
PTP depends on your organisation’s internal capacity to collect data. In other words, you need good visibility of your operations. If you don’t know the costs associated with a breakdown, or don’t know how much a particular deal is worth, you can’t feed that into your integrated business planning model. In this case, you may need to build your ERP capabilities first so that you walk before you run.
Determine Your Organisation’s Level Of Centralisation
Some organisations lend themselves well to holistic, centralised planning, taking into consideration multiple constraints across domains. Others are natively more decentralised, meaning that it doesn’t make sense to trade off one plan against another. Often, this requires delineating which arms of the business are operationally independent and which aren’t.
PTP allows companies to advance far beyond traditional capability planning. It attempts to capture the business-wide ramifications of adopting specific plans on profitability, be they taking on client orders or adjusting marketing schedules. When implemented correctly, PTP radically improves financial outcomes.