Improve Profit and Loss: Get Directly Involved in S&OP

The primary reason a P&L owner should be directly involved is the impact on performance — potentially as much as 3-5% of revenue in additional profits.

Furthermore, it can affect other corporate and business unit objectives such as growth, return on assets, ability to meet sustainability targets and risk.

S&OP is a critical juncture where demand and supply meet, but unfortunately it is too focused on balancing the two vs. making important decisions that impact the business. For example, most companies at one point or another face a forecasted product shortage. Their first reaction is to do everything they can to meet demand, including building ahead, running the lines on Sundays or contracting with co-packers. If the shortage is likely to persist, they then use “fair share” rules to determine which products, regions and customers will get shorted. Very few evaluate the situation from a financial angle to ask the question: is meeting this demand even profitable? Or whether the customers they will short are the least profitable? Even fewer take this information and go back to their commercial teams to determine whether they can proactively shape demand — for example reducing the emphasis on promotions.

Tellingly, often times heavy promotions and extreme supply chain reactions to meet the extra demand generated combine with adverse effects and result in marginal or negative contribution from the campaigns. Unfortunately, most companies don’t know this until after the fact — they use standard costing to estimate the expected contribution from their campaigns, so how could they?

7 Questions Profit and Loss Owners Should Ask to Drive S&OP Success

S&OP can do so much more, but only the profit and loss owners have the visibility, incentives and ability to drive a broader set of questions into the process that can align and increase its impact on business outcomes. Consider these questions:

1. When the demand plan is evaluated, does S&OP focus primarily on accuracy and the ability to meet the service level targets? Or does S&OP also include an analysis of which promotions, bids or customer contracts will be profitable?
2. If there is a demand shortage forecasted, does S&OP apply fair share rules to allocate it? Or does S&OP quantify the value differential between using fair share rules and allocating the shortage based on marginal profit contribution?
3. Is capacity planned using rules/heuristics? For example, does S&OP allocate demand working backwards from the demand point to the DCs, inventory and then to production lines through primary routes with the primary objective of meeting demand? Does S&OP understand the difference between an unconstrained and a feasible plan? Even more importantly, does S&OP create a plan that optimally makes trade-offs between capacity, sourcing (including secondary routes) and build ahead to deliver maximum profit?
4. Are there any product policies and KPIs evaluated as part of S&OP? For example, the company may have a policy accept only certain size orders based on production run lengths and therefore may be missing out on small but highly profitable orders. Does S&OP inform commercial and product management decisions? Does it produce a forecast of average and marginal product profitability?
5. What types of sensitivity analyses are calculated as part of S&OP? Does S&OP accurately point to the key constraints to increasing contribution to business outcomes – for example assets that are fully utilized, and quantify their impact?
6. Does S&OP produce financial statements? Are financials tallied up in a separate step, or can S&OP run scenarios that consider gross profit or operating profit as the objective to maximize?
7. Does S&OP keep track of sustainability impacts such as energy consumption, carbon emissions, water consumption, etc.? Can S&OP set constraints around these metrics to derive a plan that will help the company meet these targets? Can S&OP translate these constraints into their impact on growth, service levels, inventory and financial performance?

Most S&OP processes today remain focused on operational metrics and are run by people whose role and incentives limit their ability to broaden their impact. Nevertheless, S&OP remains the single focal point where a company has a unique chance to optimally decide which products, which demand, which inventory/supply plan and what targets are most important relative to maximizing their business objectives.

Strong participation from P&L owners in S&OP will not only ensure the right questions are asked, it will also ensure that the key decisions around the trade-offs evaluated are made in alignment with company objectives. It’s not easy. Then again, how many alternatives does a P&L owner have to capture 3-5% of revenue in additional profits?