Back Against the Wall with Buy Backs
If doesn’t make money, it doesn’t make sense to be in the business
While the initial intent of this article was going to be about the intensifying concern many lubricant distributors are expressing about the fees they are paid by major oil companies to deliver product to their direct “national” accounts (buyback fees/DFOA), the story took an unexpected turn after hearing some distributors speak about a new buy-back model recently implemented by ExxonMobil. In a refreshing change from the past, instead of hearing a unified chorus of resentment and exasperation about the inequities of buyback fees, and believe me, most are plenty riled up about the existing fees majors are paying, early indication suggest ExxonMobil’s new buyback model is an improvement. It appears to be a step in the right direction and some of its distributors are encouraged by ExMo’s willingness to listen to their concerns and identify and implement mutually beneficial solutions.
But, before getting into discussion about this new model, it’s important to understand that the traditional model is still employed by other majors and with few exceptions, every distributor JobbersWorld speaks with says the current buy back model is broken. And the reason it’s broken is because the fees are not aligned with the real cost-to-serve (CTS) for national accounts.
Moreover, the chasm between buy back fees and the actual CTS is widening due to supply chain interruptions and skyrocketing inflation, and most distributors say they are losing money with every gallon they deliver for the majors to national accounts. Further, unless something changes, many say they have reached a breaking point, their backs are against the wall. They will either have to say no to buy back business and let the chips fall where they may, or get sucked into a death spiral as the percentage of their national account business grows and their earnings crumble.
To understand why distributors, say the current model is broken starts with a look at the cost-to-serve for lubricant customers, whether direct or buyback. The CTS is combination of fixed and variable costs. The most obvious of these costs are those directly related to delivering product (e.g., driver wages, fuel, vehicle insurance, and vehicle repair and maintenance). But, in addition, they also include such fixed costs as the floor space to warehouse the products, utilities, GLI, commercial property and other insurance, loan repayments, taxes, salaries to process invoices, labor to maintain the quality of the product and packaging, inbound freight costs, time and labor to load product for delivery, and other SG&A costs that are incurred to manage, process and handle national account business. Further, many distributors down pack bulk into drums, kegs and pails for buyback suppliers and this layers on additional costs for containers and labor.
These costs can differ considerably due to such factors as the location of the distributor, size and frequency of deliveries, distances to supply points, distances to and between national accounts, services required, complexity of order and buyback processing, and other distributor and account specific variables. And, as seen over the past year, these costs can also escalate rapidly due to supply line disruptions and inflation. Additionally, there tends to be higher costs, complexity and time spent delivering automotive national accounts with multiple packaged SKUs and smaller bulk drops that require costly line purges.
As an example, where one distributor may be located 10 miles from a loading terminal, another might drive 75 miles and spend hours in bumper-to-bumper traffic burning up fuel and paying numerous tolls to pick up product. Further, where some distributors are located in metropolitan areas where they can make large deliveries to many national accounts in the course of a day, others are in areas with a low density of national accounts and they may have to travel 50 miles to deliver 1 drum to one account and another 50 miles to drop off 3 drums to the next. Regardless of these circumstances, the buyback fees paid by each major is most often the same.
The buy-back fee – CTS gap
With the exception of Chevron who gives some consideration to the service level required by national accounts, and some majors that make adjustments for less than minimum orders, distributors say the major’s buy-back fees only consider the costs of fuel, driver wages, vehicle insurance, and repair and maintenance. They fail to take into account the fixed costs associated with national account business, differences in distributors geography and national account density, and others costs. Further, although some have fee schedules that address less than minimum orders, distributors say the premiums are rarely enforced.
Based on Petroleum Trends International’s data recently gleaned from distributors with sophisticated accounting tools, when both the fixed and variable costs are examined, the real cost-to-serve national accounts is in the range of $1.40 to $1.60 a gallon. Considering that buy-back fees currently range from $0.85 a gallon for normal deliveries (as low as $0.50 a gallon for large deliveries) to as high as $1.35 a gallon (depending on the major), there is little wonder why it’s common to hear distributors say they are “subsidizing” the national account business of the majors. While you can be fairly certain that that’s not the intent of any major, the bottom line is that even if a distributor is looking at the high end of $1.35 a gallon as a buyback fee, they are not even break even when delivering a gallon of oil to a national account.
A deeper dive into the numbers by a survey currently underway by StudyGroups.com also shows that the gap between the buyback fees and the cost-to-serve is substantial, and growing.
Study Groups (www.studygroups.com) is in the process of measuring the cost to serve for its lubricant marketers. Preliminary 2021 results from a sample set of 30 lubricant marketers annually selling 145 million gallons of lubricants show an average cost to serve in the $1.60 per gallon range. These marketers represent a range of geographies, lubricant brands, and urban and rural deliveries. Study Groups emphasizes this is a lower bound cost estimate. The survey measures the operating cost of delivering the product (trucks, drivers, fuel, insurance, etc.), the cost of warehousing and picking orders (forklifts, utilities, insurance, warehouse labor, etc.), and the cost of paying for lubricant assets (warehouse rent and inventorying carrying costs). Study Groups acknowledges that general and administrative, sales and marketing, and dispatching costs are not included in their numbers, hence the lower bound estimate. They are looking for more lubricant marketers to report their data to enhance the robustness of the results even more.
The preliminary $1.60 per gallon lower bound estimate for 2021 is considerable, particularly when compared to the buyback rates marketers are receiving from majors. What’s more the Study Groups survey looks at first quarter 2022 costs. The survey finds the cost to serve increased around 25 percent in first quarter 2022 over mid-year 2021. Insurance costs, warehouse rents, driver and worker wages, truck fuel costs, and other costs are all under pressure. In addition, lubricant prices have risen substantially so the carrying cost of inventory has increased. The point is, the cost to serve buybacks is a constantly moving target and it’s increasing quickly in our current macroeconomic environment. Study Groups’ report stresses lubricant marketers “need to manage the revenue side of their businesses mindfully to keep up with escalating costs.”
Reaching a breaking point
While in the past distributors accepted the argument that “you have to take the good with the bad” in buy back business, many say the balance between good and bad has shifted and the numbers are showing considerably worse than good as the percentage of national account business in their portfolios grows and their pooled margins shrink.
Further, the power dynamics among majors and distributors is also shifting as majors consolidate the number of distributors in their networks and become more dependent on very large financially focused distributors to represent their brands. Many of these distributors employ advanced analytics capable of resolving the cost-to-serve and profitability of every account they process (including national accounts). And for many JobbersWorld speaks with, they are losing money on national account business and they are willing to walk away from it if the model doesn’t change. Because, as in most businesses, if doesn’t make money, it doesn’t make business sense.
A New Model
There was talk on the street for close to a year that ExxonMobil was conducting a rigorous analysis of its distributor buy back fee structure. The research was rumored to include a deep dive into the distributor cost-to-serve, the fees ExMo pays its distributors to deliver to these accounts, and the equity of fees with regards to the CTS and profitability. While ExxonMobil did not directly share information with JobbersWorld about such research, or how its buy back fee structure changed, distributors say a new model has been deployed.
Although it’s too soon to tell if the new model will get a thumbs up from the majority of distributors in ExMo’s network, early indications from some is that it is a more reasonable and equitable approach to buy back fees than what they have seen in the past from ExMo, or any other major, for that matter.
JobbersWorld hears the new ExMo’s model arrives at company specific buy back fees with the use of a mathematical model that takes into account a multitude of fixed and variable costs specific to each of its distributors and the national account business they serve. By doing so, in addition to driver wages, fuel, vehicle insurance, and vehicle repair and maintenance, the model takes into account the distances to delivery point, order sizes, customer service levels, quality control, and other cost drivers. And to help assure fees remain aligned with the CTS, the model is reportedly updated every six months, or sooner if fuel costs fluctuate significantly.
Importantly, word has it that ExMo’s new buyback model was in a large part the outcome of ExMo listening to its distributors and collaborating with its National Lubricant Advisory Council to develop an innovative and more equitable approach to buy back fees. With that, distributors say the model goes to show what can be accomplished when suppliers and distributors work together to find solutions that benefit them both.
It will be interesting to see how this new model plays out over time and if ExMo’s efforts in partnering with its distributors in a mutual win-win relationship will result in not only a sustainable, efficient and effective relationship for this group, but extend to other major brands. As other majors identify the need for the distributor to maintain their fleets, personnel and warehouses, along with clarity on national account competitiveness, the opportunity for a balanced fee to CTS should materialize. Because the financial implications are becoming more glaring and with “backs against the wall” these conditions could result in a no choice circumstance for distributors and majors.
The time for this industry to take a hard look at its buyback models/fees appears to be now given the price increases not only related to base oil and additives, but true cost to serve as identified.