The Back Breaking Business of Buy Backs
Is the Buy-Back Business Model Broken?
In the lubricant industry, the term “Buy-Back,” refers to a business model where a major oil company buys back the lubricant inventory from its distributor’s and pays the distributor a fee after the distributor delivers the product to the major’s direct served account. These Buy-Backs are commonly referred to as; Deliver for our Account (DFOA), Marketer Served Accounts (MSA), Delivery for Fee (DFF), among others. This type of transaction has been in existence for decades and it’s no secret that distributors have been expressing discontent about them for quite some time.
The primary source of angst is that distributors feel the fees don’t reflect the real cost to deliver product. In short, they are not fair.
In looking back at buy-back fees over the past 15 years, one thing for sure is that they have not changed much over time. Although the fees moved from an average of $0.58 a gallon for synthetic blends in 2005 to $0.79, year-to-date in 2021, this change reflects little more than an adjustment for the 2% average annual inflation rate over the period. And according to what many distributors are told by their supplier’s, adjustments to the fees are based on inflation as measured by the Consumer Price Index (CPI).
Where it may seem reasonable to adjust fees based on inflation, it’s important to consider that the inflation rate is most commonly derived from the Consumer Price Index, and the CPI is a weighted average of prices for a fixed basket of goods and services considered representative of common consumer consumption. While the CPI is an arguably accurate metric to express the cost-of-living across a time series, distributors say it’s considerably off the mark with regards to changes in the cost to delivery lubricants. This year in particular underscores the disconnect.
The costs to deliver lubricants comprise a relatively small number of variables; primarily the cost of fuel, driver wages and benefits, insurance, and vehicle maintenance. While the cost of each has increased significantly since the start of 2021, driver wages have skyrocketed over the past 12 months.
Due to the driver shortage, many distributors JobbersWorld speaks with say they have had to increase driver wages at least once this year and with that, wages moved up by 12% or more since the beginning of the year; and they are still climbing. Some of the increases reported are fairly consistent with the nearly 16% increase seen in the Producer Price Index (PPI) for truck transportation over the past year.
In addition to significantly higher wages, sign-on bonuses are necessary in many locales to attract and retain drivers, and the high turnover rate due to job jumping for higher wages means more time and effort spent on-boarding new drivers. Adding to this cost burden, some distributors report that their insurance premiums have increased by nearly 10%. The increases in wages and insurance alone are certainly distant from the 5% increase in the CPI over the past 12 months.
Further confounding the lack of movement in buy-back fees is the striking dichotomy distributors see between buy-back fees and justifications for the six lubricant price increases seen so far in 2021.
Nearly all price increase notifications received by distributors this year attribute the adjustments to the higher cost of base oils, additives, packaging, and transportation. Ironically, this means the majors are factoring in higher transportation costs into their price increases, but they are not taking it into account on the buy-back side of the business. When asking about this, distributors say the major’s answers are typically the same; national accounts are contractual and other than very few having the latitude to levy a fuel surcharge, there is nothing else they can do adjust contract prices on national accounts. Further, competition for national accounts is very intense and as such, margins are paper thin and distributors have to take the good with the bad in national account delivery fees.
While only the majors and their direct served customers know the details of such contracts, many distributors feel the current buy-back model is unfair and unsustainable if product pricing and delivery fees for such accounts are not based on real costs. And many distributors say they are not.
So, if the current model is broken, what’s the fix?
Signs of potential solutions may already be taking shape in the form of flexibility. Although there have not been any reported adjustments in buy-back fees to address the hikes in driver wages, increases in insurance and other costs directly related to delivery, at least three majors have responded to the negative impact allocation is having on its distributor’s buy-back business.
At issue here is that allocation, due to the short supply of lubricant we have been seeing, requires distributors to make smaller drops to national accounts and this substantially drives up the unit cost to deliver. As an example, one distributor pointed out that where it used to make a 600-gallon drops to a national account: due to allocation, it’s now delivering 300 gallons. While the buy-back fee has not changed, the distributor’s revenue from that delivery is sliced in half and there is opportunity cost, especially as it pertains to a distributor’s direct business to their customers.
Understanding that national accounts represent a large and growing percentage of business for many distributors, the lost revenue from these smaller loads quickly adds up. Distributors in rural areas are particularly hard hit by smaller drops since they often have to schedule dedicated runs every week or two due to distance, rather than delivering product more frequently to multiple locations in areas where there is a high density of accounts.
In response to distributor concern about this issue, some majors recently implemented a $0.10 a gallon temporary allowance to compensate for national account volumes impacted by allocation. Although this is only a temporary fix to what hopefully will only be a temporary problem, it does show a willingness, and the ability on the part of majors to adjust their buy back fees in response to changing market conditions. Such flexibility has also been demonstrated in the past when fuel prices spiked and majors implemented temporary fuel allowances to help distributors get through it.
With such flexibility in mind, there is hope among distributors that a major takes a leadership role and shows the way by stepping up and out with a new national account buy-back model that’s equitable and sustainable for the long haul. Instead of patching cracks in the current model with temporary allowances, surcharges, and other ephemeral adjustments, the model many distributors are looking for is one built on a foundation of real and transparent costs, and proactively responsive to near real time changes to costs rather than simply, and often slowly reactive to distributor discontent.
Although such a model may have been unthinkable decades ago when buy-backs were first conceived, with today’s technology, and its use by many in the supply chain, there is massive cognitive power to structure, manage, and execute complex buy-back fee models that are fair, fast and flexible. Such models can now use formulaic AI algorithms and advanced analytics driven by data derived from transparent cost inputs and industry specific indices. They can be sensitive to account delivery locations, volumes and percent of truck used for delivery, product mix, fuel economy, speed of delivery, communication and management required to service accounts, and other analytics that can even be distributor specific.
But, regardless of how a new buy-back model works, distributors say for it to work successfully, any new model of value will require changes in behaviors. Those changes will have to take places in the mindsets of distributors, and the majors and their direct served accounts. Many feel the first step, and possibly the most impactful towards improving the buy-back model, is to change the ordering behavior of national accounts with regards to minimum order quantities (MOQ).
So, even if it takes a while before a new and improved buy-back business model is developed, it’s believed that one “simple” change in buying behavior (actualize minimum order quantities) will go a long way to improve the existing model. And if that change can be made, there is hope among distributors that others can as well to make buy-backs a fair and sustainable part of their business.