The following is a contributed piece from Dayton Kellenberger, CFO of pricing optimization software company Vendavo. Opinions expressed are author's own.
Analyzing how much each product, service and revenue stream contributes to a company's bottom line is a challenge for CFOs. One of the tools I use at Vendavo, a pricing optimization software company, is a price-volume-mix analysis.
You might know this type of analysis as a revenue or sales bridge or a variance analysis, but whatever you call it, it can help you explain what's happening with your performance factors at a granular level.
In the simplest terms, a PVM analysis helps you organize changes in revenue or margins into key components. The generated report shows the gaps in expected vs. actual sales and the three main factors — price effect, volume effect, and mix effect — that could be causing them.
Price effect refers to what happens when you apply higher- or lower-selling prices per unit; volume effect refers to the variation in the number of units sold; and the mix effect refers to the change in the mix of quantities sold — that is, the percent of units sold per reference over the total.
The PVM analysis is particularly effective when completed as a bottom-up analysis; this lets you identify the cause of the variations at the product, customer, region, or other level.
Standardizing your price-volume-mix assessment
Tracking the cause of price increases can be particularly challenging, but identifying causality is critical for your organization's long-term growth. PVM is intended to help you identify and communicate the changes to your C-suite colleagues by enabling you to drill down into the details.
For instance, you might consider the impact of foreign exchange rates. Or you might look into a broader set of causes in your business won/lost metric. In industries where volatile costs make predicting profitability harder, you might include a cost bucket and make your PVM assessment on a margin basis.
Challenges of building a bridge
Expect to encounter hurdles when you set your PVM analysis. For starters, it's hard to standardize your information. It will be based on very different projects, and the reporting is often done outside standard reporting systems. And the reporting mostly involves spreadsheet exercises.
Second, PVM is usually limited to high-level applications. This means it's effective at communicating causes for difference (price, volume, mix, cost, etc.), but it might be difficult to break it down for more specific applications.
Third, it's difficult to drill down. When designed for corporate-wide reporting, PVM can be a challenge to drive your assessment for more granularity at lower-level business units, product families, sales regions, etc.
And lastly, it involves customization to stakeholders. Naturally, stakeholders have different needs. An effective PVM analysis offers relevant and actionable information according to the individual's function in the organization
Bridge building benefits
Despite its challenges, PVM analyses are enormously beneficial.
By identifying and isolating the impact of pricing on your revenue or margin, and then filtering this data by relevant business parameters, you can measure the effectiveness — and deficiencies — of your pricing actions and initiatives. Once you understand what's working in over-performing business areas, for instance, you have the information to replicate it throughout your organization and increase your profit margin.
The data you glean from the analysis can help you refine your pricing practices and ensure you're implementing them in the most profitable way. It also helps your team and company gain a deeper understanding of customer behavior and the best way to engage them at a granular level.
Essentially, a strong analysis can help you develop informed, data-driven understandings of your business. The next time your investors or other stakeholders have questions about your pricing or customers, you'll have the answers based on a deep examination of all major factors. This data also empowers you and your management team to make appropriate, powerful strategic decisions and changes that will benefit you in the long run.
The need for PVM
To drive strategy with consistent, reliable performance measurement, all CFOs and their teams require a robust variance analysis capability. Business leaders need to leverage a strong PVM analysis to evaluate their sales model efficiently and make changes accordingly. Impacting overall profitability requires insights to enhance decision-making and revenue growth.
To support the business needs of all stakeholder groups in your organization, however, you require granularity to pinpoint potential problem areas. A PVM analysis is the answer, but not a generalized, one-size-fits-all model.
An enterprise-ready, purpose-built framework delivers consistent analysis results for rapid assessment, benchmarking, and scenario comparison. Together, these capabilities will support your efforts to drive measured improvement in top-line revenue and bottom-line margins.