Looking at the Numbers -- Dickeson

Profit Leaders in the PIA (Printing Industries of America) Ratio Studies for the Year 2000 were the top one-fourth of 785 printing firms reporting. In this upper quartile were 198 companies with the highest reported profits for the year.

The remaining 587 companies were the lower three-fourths of the total. It may, or may not, be a "representative" sample since the 785 reporting companies weren't randomly selected. But we do have a large enough group of companies to be deserving of comment and study. The table shows the key figures.

In place of "Profit," the Earnings Before Income Taxes, Depreciation and Amortization (EBITDA) is shown. As many are aware, the definition of profit has become so sophisticated that it's now called an "accounting opinion."

The "EBITDA" is growing in acceptance as a value closer to cash results of the operating performance of companies. In place of "Gross Profit" or "Value Added," sales minus materials is called "contribution." Although value added and contribution appear to be identical, gross profit isn't a counterpart of these two.

Gross profit is a general ledger term that includes a deduction for manufacturing expenses. Are we quibbling about inconsequential differences? No, we're simply recognizing profound changes that are occurring in other industries and in the thinking of modern management students.

Remarkable, isn't it, that materials costs for the upper quartile (198) and lower three-quartile (587) companies are so nearly identical? Just a half percentile less for the upper 198. Does this mean that all 785 companies, on average, priced their services at 2.8 times the cost of materials? This appears to be the case.

I suggest that you check this for your company. Just divide your sales by materials. In this group of 785 companies, the average printer had materials equal to 36 percent of sales.

However, average EBITDA for a printer in the lower 587 firms shows us just a breakeven. The top 198 have almost 15 percent EBITDA. The difference between the two groups is to be found in the operating expenses. The average top printer spent 14 cents less of every sales dollar to operate its plants than did the average firm in the lower group. This is really a shocker! That's an awful lot of money. Average sales for the top group were reported to be $13.3 million for the year. The lower group averaged roughly equal average sales. So the average profit leader had operating expenses of $1.86 million a year less than the average of 587 reporting printers. Yikes!

Keep in mind we're looking at EBITDA and we're looking at a "contribution" summary—a breakeven analysis. We've extracted the non-cash costs of depreciation, amortization and any income tax impact. The 14 points of difference are in cash expenses for labor, factory, sales and administration. Recall, please, that we found only a half point difference in materials usage.

The logical conclusion: the lower group is spending a lot more to maintain a plant capacity to service their sales. (These numbers substantiate the widely held belief that printing is plagued with overcapacity.) If the ratios are anywhere close to representative, the printing industry needs intensive care ASAP.

But those ratios just can't be representative or how could 35,000 printing companies in this country (75 percent of 47,000) stay afloat just breaking even? Good question! Have I somehow misinterpreted the data? I doubt that the Printing Industries of America misreported. They've been publishing these annual studies for 79 years.

Does this information suggest that the lower three quarters of those reporting companies must "downsize"—eliminate capacity—in order to join their happy colleagues at a comfortable EBITDA level?

What does that nasty word "downsizing" mean? It means mostly laying off people, doesn't it? If we interpret the numbers correctly, there must be closures, bankruptcies, mergers, acquisitions and skilled people out of work. These are dreadful, unacceptable consequences. But is this what's happening to us? Are we choking on our excess capacity?

Suppose the lower three quarters of firms increase their "efficiency" in order to reduce operating expenses. Increasing efficiency, getting more printing out the door faster, doesn't do a thing to improve cash results as long as sales volume and operating expenses remain the same. Improved efficiency compounds the problem. Capacity isn't reduced, it's increased! By increasing capacity we increase the magnitude of any needed downsizing. Greater efficiency increases capacity.

What's the alternative? Increasing sales? As long as operating expenses remain constant, increasing sales at prices that provide contribution yield would increase EBITDA. That's logical—just common sense. Increase market size or market share. "But we can't do that because we'd be selling work at prices below cost," we say. Now we're back to the importance of definitions, assumptions that deflect us from applying our common sense. The only costs a job has are the acquisition costs of job-specific materials. Hourly job costs aren't the same as the acquisition costs of job-specific materials, are they?

There are only materials costs and "operating expenses" of the printing plant. Job "costs" aren't really "costs" at all. Job costs are predicted operating expense chopped up into hours by a series of assumptions. If we didn't have a single job, we'd still have the same operating expenses for the plant.

When we add a new job we don't add operating expense even though we make believe we're adding job costs. We may be trapped by our assumptions. There are no job costs other than job-specific raw materials. There are only operating expenses of the business. This is why Drucker is telling us to abandon traditional cost accounting. It's why Eli Goldratt calls "Cost Accounting Public Enemy Number One of Productivity."

All of this we must call "global" analysis, looking at ratios, average percentages, of a non-random sample of 785 companies willing to submit data. Read it for what it's worth to stimulate the way you think about your own business.

—Roger V. Dickeson

About the Author
Roger Dickeson is a printing productivity consultant based in Tucson, AZ. He can be reached by e-mail at roger@prem-associates.com, by fax (520)903-2295, or on the Web at http://www.prem-associates.com.