Assortment Rationalization: When an Item No Longer Pays Its Way

Sales meeting, agenda item four: an item is to be removed from the assortment. It has been selling sluggishly for years, and production groans about the changeover every time it is ordered. Within two minutes, three reasons are on the table why it has to stay. “An important customer orders it.” “It rounds off the assortment.” “The tooling has been written off anyway.” The item is postponed. Next year, five new variants are added.

This is how it goes in many companies with a broad assortment. Each of the three objections may be true in an individual case. Together, they ensure that an assortment only ever grows in one direction – and with it the complexity that eats into the result.

Why assortments only grow

A new variant always has an advocate: the salesperson who wins an order with it, or the customer who asks for it. An old item has none. Nobody gets promoted for removing an item, but everyone remembers the customer who complained about it.

On top of that comes a calculation problem. The costs of complexity do not appear in any item costing. They sit in overheads: in changeovers, in planning, in purchasing small quantities, in storage space and inventory, in maintaining master data, drawings and inspection plans, in scrap from rare batches. They are usually allocated across the board via surcharges – which means the items that sell well pay for the ones that don’t.

Contribution margin alone does not decide

The usual objection is: but the item has a positive contribution margin. That is correct, and still the wrong question. The contribution margin deducts variable costs, i.e. materials and external services. What an item ties up in changeover time, inventory, maintenance effort and planning effort is not included.

An item with small batches and infrequent orders can show a respectable contribution margin per unit and still burn money – because it consumes machine hours for changeovers that the core items then lack. The question is therefore not whether an item earns a contribution margin, but whether that margin carries the complexity it causes.

Three tests for every product group

A single limit for the whole assortment – “everything below a certain revenue goes” – is misleading. A product group with a few large series follows different rules than one with many special versions. We therefore work with three tests for each product group:

1. The kink in the revenue curve. If you sort the items in a group by revenue and plot the cumulative share, the curve flattens markedly from a certain point. From there on, further items contribute hardly anything to revenue, but fully to complexity.
2. The distribution within the group. How far below the typical item of its group does an item lie? A value that is unremarkable in one group can be a clear outlier in another.
3. The break-even of complexity costs. What does an item cost at a minimum simply because it exists – in changeovers, maintenance, inventory and planning? If it earns less contribution margin than it causes in such costs, it does not pay its way.

The three tests do not produce an exact cut-off, but a corridor. What lies below it is a candidate for removal. What lies within the corridor is reviewed individually. What lies above it stays.

Remove, replace, make to order

Not every candidate has to disappear immediately. There are three options for the decision:

• Remove. The item is phased out, remaining stock is sold off, customers are informed in good time.
• Replace. A standard item covers the function. This is possible more often than the first reflex suggests – many variants differ only in details the customer never asked for.
• Make to order only. The item remains available, but without stock, with a longer delivery time and at a price that covers the complexity. Those who really need it can still order it.

Before every decision, two things belong on the table: the revenue risk, i.e. which revenue is lost if customers do not switch to a replacement, and the customer impact, i.e. which customers are affected and how much weight they carry overall. The “important customer” from the sales meeting is then no longer a claim, but a number.

What the rationalization frees up

The effect of an assortment rationalization rarely shows up in a single line of the income statement. It is spread out:

• Inventory and working capital: fewer items, less safety stock, fewer slow movers.
• Changeover capacity: machine hours that used to go into changeovers become available for the core items.
• Predictability: fewer variants mean larger batches, more stable processes and more reliable delivery dates.
• Availability of the core items: where capacity is no longer fragmented, delivery reliability rises where the company earns its money.

And one effect that appears in no KPI: a leaner assortment is easier to sell. Sales can explain what the company stands for.

Recommendations

1. Analyse by product group, not as a whole. Compile revenue and contribution margin per item for the last few years, separated by product group. An overall view blurs exactly the differences that matter.
2. Make complexity costs visible. Estimate what an item costs at a minimum simply because it exists – roughly, but traceably. A defensible assumption beats an exact figure that is never finished.
3. Set a corridor instead of a limit. Derive the removal threshold for each group from the kink, the distribution and the break-even, and review the corridor item by item.
4. Assign responsibility. Every product group needs a person who answers for its assortment and contribution margin – and who is allowed to remove items. That is the core of the entrepreneur within the company.

An assortment rationalization is not a one-off clean-up. Once it has been carried out properly, the same review should be repeated every year – otherwise the assortment quietly grows back to its old breadth. How we approach assortment, price and production at manufacturers with a broad assortment is shown on our page for tool manufacturers and metalworking companies.

Would you like to know whether your assortment carries your result or eats into it? The Quick Health Check takes five minutes to complete and shows which state your company is in and which fields of action offer the greatest leverage – as a five-page profile, reviewed by an experienced consultant and free of charge. Start the Quick Health Check.

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Further articles:

How SMEs Achieve Peak Performance through Strategic Focus (link)

What Your Contribution Margins of the Last Five Years Reveal (link)

Turnaround Case Study: When the Flagship Product Becomes a Risk (link)