Problem:

A large gas station chain with 200 retail stations was profitable last year before the gas prices went up. However with gas prices up this year, it has seen a loss for the first time in its 14 years of business history. The CEO is unable to pin point the reason and has called you to find out the reason. Assume that you are talking to the CEO of the company. How would you go about it?

Solution

(Note: The client is the CEO of the gas station chain. His words are in italics, and the consulant's words are in bold.)

CEO:   “I am at a loss and am thinking of firing 15% of the staff to regain profitability. Do you think that is a good idea?”

Consultant:     “Well, before letting people go, let us understand the issue and see if a lay-off will help. What kind of staff are you are thinking of firing? Are they from your HQ or from the field?”

CEO:   “Field is what produces profits and/or losses. The people at HQ have little to do with it. So I am thinking of taking action in the field. As such I pay the field staff handsome bonus when a station or a region does well. Hence, when the times are bad, they should face the music too. Do you disagree?”

“The logic is correct at a philosophical level – you are great at reasoning and logical analysis. However, for this case, can you tell me specifically about the people you are thinking of firing?”

“Well, I am thinking of laying off staff in areas where we have seen decline in revenue. You see, in the last year about half our stores have seen an increase in revenue and the other half have experienced a decline. I am thinking we should pour more support at stations where we have seen revenue increase to boost customer satisfaction. And where we have seen a decline in revenue, we should fire staff. As such most of our stations are equipped with auto-service stations and credit card facilities. So customers can buy gasoline themselves. What is the use of the station managers at our low volume stations?”

“What were those managers doing before, when you did not have the losses but profits?  By the way, what is your revenue per station?”

“I am a humanist. If we are making money, I see no reason to fire staff. So I did not look for any candidate for the guillotine until now. Last year the revenues were about $1 million per station per year with about 3% profit. This year about half the gas stations have seen an increase in revenue by 30%, whereas the rest have seen a decline by about the same percentage. I don’t understand the reasons for the sudden change in profitability. Stores that are making more money now are making losses. Stores with solid decline in total revenue are more profitable than ever. I think I need to fire my Finance Director first. He has given bogus data…”

“Essentially, the total revenue was $200 million last year, and it has remained the same this year?”

“Yes. And that is what puzzles me. You see the gas prices have gone up by 30% on average nationwide and my stations are no different.  So a 30% increase in revenue in my gas stations makes sense. But why the sudden decrease in revenue in half of the stations?”

“So are the stations with declining revenue the major loss makers?”

“Surprisingly no. They are actually more profitable now. The net losses are at those gas stations where the station revenues have gone up. That is what puzzles me. I think we need to boost customer service in those high volume stations so that people will buy even more and get them to profitability. Why put good money on bad – I am talking about those stations where overall sales have gone down.”

“I see, let us understand your stations a little more. In the stations, where the revenues have gone up, what else do you sell, besides gasoline?”

“You know! The standard stuff: small items, coffee, cigarette, lotto tickets, soda small snacks, etc. It is the same for all my stations. I pride in Process. And that is why I have designed them in a uniform way - easy to analyze, easy to compare, and easy to reward the staff that perform.”

“Indeed! Having a Process is a great advantage in a large operational setting. So what is the gross margin on the products you sell?”

“It depends on what people buy. We make 10 cents a gallon on Gasoline. But we make 100% profit in our small products such as soda, coffee, lottery, etc.”

“Okay. The current average price of gasoline is $2.25 a gallon. Last year, it was $1.73.  How has the profit margin changed as the prices have gone up?”

“The gross margin has remained the same at 10 cents a gallon. So you can argue as a percentage basis, the gasoline profit has gone down. But that does not explain the losses in stations with increase in revenue. What surprises me is that the profitability of the stations with decline in revenue has gone up.”

“Where are those stations located, where you have experienced increase in sales?”

“All my high-revenue stations are in cities, large towns, and/or urban areas. The stations where I am seeing decline in revenue are sub-urban or rural. But those have become more profitable this year. That is what puzzles me. Are you telling me that I should encourage a decline in revenue to support new found profits, which has no apparent basis?”

“No. I have no opinion as of now. However, have you experienced any new business opening up around your gas stations in the cities and urban areas?”

“Yeah, all my high-volume stations are in excellent locations. So other companies are trying to copy my strategy. For example, we have had some 70 new Starbucks open right by the side of our stations. In addition, there are there are about 50 new 7-11 stores that have opened near my city stations over the last year. It has been great for me since they attract more people, and these people use our gas pumps. So we have seen a handsome boost in gasoline sales in spite of a national average decline of gasoline consumption. I have conveyed that to my Board. In retail business the top three strategic priorities are:  (1) Location, (2) Location, and (3) Location. Would you disagree?”

“Absolutely not. Your core strategy of location is correct, broadly speaking. But you see, attractive places have their own risks. With these new businesses moving in, you have increased your gasoline sales. That is great news. How are your coffee and cigarette sales now compared to before?”

“Those have taken a hit since people buy their coffee in Starbucks and their cigarettes in 7-11.”

. . . Continued on Cash in Gas - Solved Case Part II