Mining for insight Using advanced analytics to make an impact on pricing and profitability

In recent years, new analytical methods and technologies have emerged to help organizations across many industries make better business decisions. Software applications have taken advantage of an exponential growth of computing power as the amount of data has increased dramatically. In fact, the amount of digital information increases tenfold every five years.1 For instance, Wal-Mart handles more than 1 million customer transactions per hour that are added to its estimated 2,500 terabyte database thats equal to 167 times the number of books in the Library of Congress.2 And computing power has roughly doubled every two years. For example, decoding the human genome took a decade when it was completed the first time in 2003. Now, it would take about a week.3 With the advancements in technology, its not surprising that a lot of companies are pushing for advanced analytical tools to help take their pricing strategies to the next level. Pricing analytics can help companies mine for insights from a massive haystack of information. It can help organizations better examine their customers, products, and marketplace dynamics to help improve their growth and profitability. The bottom line is that analytics can help organizations make informed decisions using real-time data, increase their bottom line, and provide a competitive edge. But some organizations may still have doubts about the value of analytics. Or they may even be unsure about whats required to use this technology. Through case studies and real-world examples, well show how these analytical techniques can be a game changer and where they are being effectively applied. Whats changed? In the past, traditional analytic methods and tools were limited by data and computing power. Small data sets of just a few variables (about 10 to 20) and limited cases (fewer than 100) were typical. As a result, unrealistic assumptions often were made about the data (linear, normal, and independent). Static data sets were created from pulling information from isolated computers, tapes, and disks. Moreover, few software tools were available to store and analyze data. Today, new analytics software can handle massive data sets, churning through potentially millions of variables and billions of cases. These new applications can analyze unstructured data, such as text, emails, tweets, images, and audio and video files, and receive real-time updates to the information. It can also perform exploratory analysis without having an outcome in mind to find relevant

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Source: The Economist, Feb. 25, 2010 http://www.deloitte.com/view/en_U.S./us/ Insights/Browse-by-Content-Type/deloitte-review/ a70f2da4f32b9210VgnVCM100000ba42f00aRCRD.htm Source: The Economist, Feb. 25, 2010

patterns, trends, and anomalies in data. These advances have helped several organizations effectively use analytics to make improvements, ranging from better customer service to fraud detection. Nearly two-thirds of Netflix movies that are selected by customers come from the companys analytics engine, which reviews movie ratings from millions of its subscribers. After identifying that 7 percent of its customers accounted for 43 percent of sales, Best Buy reorganized its stores to focus on the needs of those particular customers. American Express discovered that people who rack up large credit card bills and register a new forwarding address in Florida which has one of the most liberal bankruptcy laws are more likely to declare bankruptcy. eBay analyzes millions of auction pages, bidding history, and feedback to detect fraud. Google studies the timing and location of search-engine queries to predict flu outbreaks and unemployment trends before official government statistics come out. Advanced analytics can have that game-changing impact on pricing as well. With this technology, organizations can potentially make faster and more accurate pricing decisions. It can help them to continually monitor and measure their pricing performance in the market and suss out new opportunities. Advanced analytics aimed at customer and business outcomes are at the core of modern pricing and profitability management, price leveraging and profitability management, and trade spend effectiveness. Three case studies for effective analytics While many may agree that data has become an important business asset, questions remain: How do you sort through mammoth amounts of information to find those insights to make better decisions? How should a company use data without succumbing to continual analysis-paralysis that plagues many decision makers? The first step may seem daunting. But if companies can focus on the appropriate questions and problems, they can get off to a faster start on their analytics journey. The following case studies illustrate some practical and effective methods for using advanced analytics with existing data to help companies make better pricing and profitability decisions.

Case 1: Building a better incentive program A large consumer products company with a long history of selling on volume had provided incentives to customers through three distinct programs discounts, rebates, and micro-financing. However, the organization had not analyzed how each program influenced specific customer segments, which were grouped according to size, competitive intensity, and other traditional characteristics. Plus, there were no guidelines regarding how and where these programs were being applied. For instance, some customers received multiple incentives, while others, who shouldnt have gotten any, were still getting them. The organization decided it needed to analyze marginal profitability and volume metrics for each customer and incentive combination. First, it established a baseline with a control group that was not offered any incentives. The organization then built a matrix of several hundred thousand customers, identifying which customers were receiving what mix of incentives. Customers were assigned to a distinct group each month based on the incentives that they received. Each groups performance was then compared to the baseline group based on the impact to volume and profit. While some incentives would reduce profit percentage under this model, they would still generate more than enough sales to compensate. The incentives actually are not reduced, but only redistributed. Those with the highest return on investment are distributed to certain groups; other groups get incentives that generate the most incremental volume. By weighting margin improvement by volume change, the total dollar return was increased. Based on the results of this analysis, reassigning incentives to customers generated $10 million in margin lift to date. Case 2: Identifying profitable customers A large financial services company wanted to identify the characteristics of customers who consistently delivered profitable loans. The company conducted an advanced analysis of micro-segmentation using self-organizing maps. By grouping the customers into profit-based segments, the company identified other variables that had a strong correlation to profit. For example, the companys unprofitable loans seemed to have an origination amount in excess of $25,000, a 5 percent interest rate, no dealer markup, and interest rate overrides. These loans were also made to customers in the Fair Isaac Credit Organization range of 720770. The maps below illustrate some of these findings.

Micro-segmentation using self-organizing map

Source: Deloitte Consulting LLP Analysis 2011

From the analysis, the company realized that including performance review with its segments could improve customer performance. The company gained very specific information from a very large data set and was able to identify customers at risk of defaulting on loans. This information became the key to improved predictive power. Before the analysis, the company grouped its existing customers on purely demographic variables and did not factor in profitability and other performance measures. Plus, customer segment management occurred ad hoc within each selling unit. By applying advanced analytics, customer segmentation was revisited using transactional data to understand behavioral attributes with added variables, such as profitability and volume. Dashboards were designed to allow for segment management at a selling-unit level, including discounting guidelines, pricing, and supply chain costs. When these new tools are fully deployed, run-rate benefits for field customer management could total $50 million in margin annually. Case 3: Increasing profit through product mix A consumer packaged goods company gained $16 million in annual profit improvements by using transactional analytics to increase its product mix by customer microsegment. The companys product mix varied within a given segment of the marketplace and no suggested portfolios existed based on historical performance or profitability. And with volume-driven metrics, the sales force typically sold the lowest price (and often lowest margin) products. Following an analysis of performance and profitability, this company found that their product mix can be influenced using analytics to build model portfolios.

When customers were grouped based on performance and other behavioral dimensions, model portfolios were built according to the most profitable customers in each segment. Sales implemented these portfolios with new customers, leading to a gradual adoption. The required product mix by subchannel and store characteristics helped poor performing stores improve by influencing what products were sold within those stores. The stores were grouped based on profitability top stores ranked among the top 25 percent, while bottom stores were in the lower 25 percent. Stores were further grouped within each channel based on various characteristics, such as average monthly revenue. For stores in the same channel and with the same revenue size, product portfolios were compared; specific products that sold more frequently in the poor performing stores were found. The opportunity was quantified by holding volume constant, but adjusting the product mix of lower-tiered stores to emulate that of high-performing stores. With transactional analytics, the product mix could be better managed by customer microsegment, indicating that a product mix in consumer packaged goods is critically important. Since margins vary widely across products, identifying the appropriate product mix by specific customer microsegment can have a huge impact. As a result, the organizations sales force proactively offers insight to customers about what portfolio of products will likely be more effective given the particular competitive landscape and customer set.

lowest margin) products. When customers were segmented on performance, as well as other behavioral dimensions, model portfolios were built considering the most profitable customers in each segment. Sales implemented these portfolios with new customers, leading to a gradual adoption. The required product mix by subchannel and store characteristics served to improve poor performing stores by influencing what products were sold within those stores. The stores were grouped based on profitability, with top stores

could be better managed by customer microsegment. This indicates that product mix in consumer packaged goods is critically important. Margins vary widely across products, thus identifying the appropriate product mix by specific customer microsegment can have a tremendous impact. As a result, the organizations sales people now proactively offer insight to customers about what portfolio of products will likely work best given the particular competitive landscape and customer set.

Source: Deloitte Development LLC

Make analytics work for you Advanced analytics can help organizations get more out of the data theyve collected and stored if applied effectively. They need to understand the capabilities required to provide analytic-driven improvements. In short, theyll need to make changes to their data, processes, and organization. Mind the data. Data is the fuel that drives your analytical engines. You never want to put the wrong fuel in an engine. For that reason, dont assume that your data is correct. Confirm that youre pumping clean and accurate data to make more effective and informed decisions. You should pull and integrate data from multiple, disparate systems otherwise you might not be getting the full picture. Plus, you should design databases and data cubes to improve the speed and quality of your findings. Lastly, dont be afraid to include and analyze external data, both qualitative and quantitative. Be flexible, be specific. Analytics should be used to view the same issue from multiple angles. This can help provide a clearer picture of the real issue. Also, refrain from talking or analyzing in averages because something might be hidden from your view. If you deal at the most granular level, youre more likely to see real benefits. And when you start implementing analytics, think of where you can get more bang out of your buck. By prioritizing value, youre likely to also get buy-in from other people across your organization.

People matter. If your leadership isnt on board with analytics, it likely wont get much traction across the enterprise. Strong executive sponsorship can build consensus across all stakeholders. Include your smartest people, who are experienced not just in analytic techniques, but also in the business. Finally, you should understand that some results may be counterintuitive, challenging years of accumulated conventional wisdom. Leading a new way To make more effective use of advanced analytics, organizations need to anticipate challenges and continually make any necessary corrections. When youre building your analytical capabilities, youll need to assess your current performance. That way you can gauge any improvements. Also, remember that your analytic insight is just one method to make good decisions. Dont discount your business insight. And keep in mind that databases can crash and people can make mistakes, so youll need to plan for these hiccups. You should always be certain of your analyses and only present them to executives after they have been scrutinized by the owners. With any new initiative, results will likely be challenged so be prepared to respond.

The goal is to prove to the organization that there is value in using analytics and that its well worth doing. Some organizations start with a small initiative and then build from there. You shouldnt think of analytics as a single event, but a long-term investment. It should be developed over time and customized to your organizations evolving needs. For more information, please contact: Mike Simonetto Principal Deloitte Consulting LLP msimonetto@deloitte.com Ranjit Singh Principal Deloitte Consulting LLP ransingh@deloitte.com Richard Eagles Senior Manager Deloitte Consulting LLP reagles@deloitte.com Shruti Kahlon Senior Manager Deloitte Consulting LLP skahlon@deloitte.com Join the analytics discussion at http://realanalyticsinsights.com/

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