Buyback Alarms are Ringing Louder
In the close to 20 years I’ve been writing a column for Lubes’n’Greases, this month’s column has been one of the more difficult to pen. That’s because, while buyback fees remain a significant concern, marketers and distributors are facing the more pressing issues and unprecedented challenges of the pandemic.
Marketers are focusing all the resources they can muster to safeguard their employees and ensure the continuity of their operations with minimal disruptions in supply or service to customers. Some are paying bonuses to employees working on the frontlines, while others are making hard choices about furloughing employees and limiting discretionary spending to stay afloat.
Many are working 18-hour days, spending a considerable amount of unexpected and unbudgeted working capital to keep their business going, and inventories are high in preparation for the peak travel season. At the same time, sales are plummeting as businesses are closed and travel is restricted. Energy companies in the hard-hit oil and gas sector are also demanding price reductions on the finished lubes that they buy.
Adding to these opposing forces is the challenge of converting receivables to cash when customers are looking to delay payments due to their own hardships caused by Covid-19.
So, with everyone scrambling to steady the ship in these troubled waters, it’s hard to think buybacks are much of a concern. But they are. Where marketers have been troubled by the economics and profitability of buyback business for years, the additional and unexpected operating cost burdens related to Covid-19 deepen the concerns by moving more of this business from the black to the red.
As a reminder, buybacks are a form of business in which the distributor delivers product for a fee to customers, with the sale on an oil major’s paper. Instead of simply accepting that they have to take the good with the bad in buybacks, with the aid of sophisticated analytics that integrate data across multiple systems, lubricant marketers can now dig deep into the numbers. They isolate margins at an exceedingly high level of granularity to examine the volume delivered by lubricant brand, type and grade, as well as time and miles to deliver, gross margins, cost of goods, net profit per mile and more.
This enables marketers to determine the true cost to serve individual customers across their entire business and value the individual accounts based on true profitability rather than simply the company’s topline revenue or pooled margins across all customers. When they look at the numbers, some are finding that the fees paid for buybacks are not based on the realities of the true cost to serve, nor do they take into account increases in these costs over time.
To illustrate this point, consider that where buyback fees have generally remained static over the past three years, lubricant marketers have seen driver wages and inventory costs go up 18 to 20 percent, warehousing logistics, trucks and equipment, and maintenance costs by over 10 percent, and insurance by more than 6 percent. Margins are now 50 to 65 percent less than if operation costs had stayed the same, and this is not offset by the shorter payment timeline of buybacks.
Understandably, the profitability of buyback business depends on the number of cost-challenged deliveries–which present zero profit or even a loss–that a national account represents, and the numbers vary from one account to another in different regions. So, while a marketer in one region may have few cost-challenged deliveries to serve a given national account, a marketer in another region could have significantly more to serve the same account.
From the majors’ perspective, they have to price at lower levels to win the national account business, and those prices must include tight delivery fees for the total price to be competitive. Whereas distributors understand the majors’ need to be competitive, the buyback fees have to be within reason for them to remain profitable. Based on distributors’ analytics, the base fees are often less than the actual cost to serve. Although marketers say the majors understand this, the reality is that majors have already rationalized and internalized the financials of national accounts prior to submitting bids.
With that, if the actual deliveries required to serve an account are plagued with more small and frequent stops than anticipated, the marketer ends up with the short end of the stick. Although some majors do factor in adjustments based on delivery size and other extenuating circumstances, in the view of many marketers, both the base fee and the extra fees fall woefully short of the true cost to serve.
Marketers say majors find it easier to trim margins from the marketer than to go back to a national account to seek equitable price adjustments when the cost to serve increases or is different than described when prices were tendered. This is because any adjustment to the buyback fee will directly impact the major’s profitability, and that profitability is already included in the major’s sales forecast.
But with buyback margins significantly below that of business on the marketer’s books and the disparity between buyback fees and the true cost to serve growing, financial alarms were being tripped prior to Covid-19. And with the increased working capital required to manage their businesses through the outbreak, the alarms are louder than ever due to the massive overhead marketers carry.
Tom Glenn is president of the consulting firm Petroleum Trends International, the Petroleum Quality Institute of America, and Jobbers World newsletter. Phone: (732)
494-0405. Email: firstname.lastname@example.org