Customers 2: profit strategies

Accounting Ahead | Original study resource | accountingahead.com.au

Customers 2: profit strategies

MODULE 6 | PART F.1.2 | STUDENT COMPANION

Net margin and cost to serve

Protect

High margin, low cost to

serve: product crucial to

them; good fit. Priority

service, sensible

incentives

Costly, but pay top

prices

High margin, high cost to

serve: keep price covering

the service

Price-sensitive,

few demands

Low margin, low cost to

serve: serve simply and

efficiently

Aggressive

Low margin, high cost to

serve: share cost data,

remove discounts, charge

for extras

Low High

Cost to serve

High

Low

Net

margin

Menu-based pricing

Price depends on both the product and the level of service

chosen - standard delivery and support cost less; urgent,

customised or high-touch service costs more.

Judge big customers on long-term costs and benefits

What makes a customer costly to serve

Cost area High cost to serve Low cost to serve

Pre-sales Heavy marketing and technical support Standard prices and specifications

Product Customised Standard

Stock Supplier holds stock Customer holds stock

Ordering Unpredictable, small, manual Predictable, large, online

Delivery Urgent, customised, frequent changes Standard, on an agreed schedule

After-sales Installation, training, help lines, field service Little or none

Payment Slow On time

Case notes: in 2004 the Wall Street Journal reported that Best Buy sorted customers into 'angels', who bought

high-margin products without waiting for markdowns, and 'devils', who among other tactics bought products,

claimed rebates, returned them and bought them back at a discount; Best Buy set out to attract angels and

discourage devils. In mid-2007 Sprint ended service for around 1,000 customers over very frequent

customer-care calls, waiving termination fees; critics said the calls reflected Sprint's own service problems. Find

the root cause before blaming the customer.

STRATEGIC MANAGEMENT ACCOUNTING | M6 PART F.1.2 | STUDENT COMPANION

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Accounting Ahead | Original study resource | accountingahead.com.au

When to keep an unprofitable customer

New and growing

May become profitable, or open

lucrative markets

Qualitative benefits

Leading-edge technology or marketing

know-how

Reputation

Credible names that help win profitable

business

Kaplan's three reasons to keep some unprofitable customers

Customer profitability analysis in six steps

Identify

Customers or groups

Revenue

Measure each one's revenue

Cost to serve

Measure the full cost

Profitability

Revenue less cost

Evaluate

Who earns and who erodes profit?

Act and monitor

Raise revenue, cut cost, review

Customer profitability analysis

Six steps

Benefits and limitations

Benefits Limitations

Identifies unprofitable customers, not just products Common costs such as advertising are split arbitrarily

Shows when poor service activities cause losses Unallocated committed costs (a sales manager's salary)

still need recovering

Directs attention to improvement options Needs good activity data and judgement

Strengthens customer relationship management Short-term losses may hide long-term value

Sources: Wall Street Journal (8 November 2004) as summarised by Columbia Business School and others; NPR and ABC News (July

2007).

STRATEGIC MANAGEMENT ACCOUNTING | M6 PART F.1.2 | STUDENT COMPANION

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Accounting Ahead | Original study resource | accountingahead.com.au

Formulas and rules

Item Rule

Ideal customer High net margin, low cost to serve - protect, but watch incentive costs

Aggressive customer Low margin, high cost - share cost data, remove discounts, charge for special

services

Menu-based pricing Price varies with product and service level

Retention Converting an existing unprofitable customer can be cheaper than finding new

profitable ones

Question 1 - Place and plan

For a wholesale florist (imagined), place each customer on the net margin and cost to serve map and

recommend one action: (a) a hotel group paying list prices with standing weekly orders; (b) a wedding planner

paying premium prices but demanding custom arrangements and urgent deliveries; (c) a supermarket that buys

standard bunches at keen prices; (d) a large events company that negotiates deep discounts and changes

orders at the last minute.

STRATEGIC MANAGEMENT ACCOUNTING | M6 PART F.1.2 | STUDENT COMPANION

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Accounting Ahead | Original study resource | accountingahead.com.au

Worked answers

MODULE 6 | PART F.1.2 | WORKED ANSWERS - ATTEMPT THE QUESTIONS FIRST

Question 1 - Worked answer

Customer Answer

(a) Hotel group High margin, low cost to serve - protect with priority service and a loyalty incentive

(b) Wedding planner High margin, high cost - keep prices covering custom work; charge for urgent delivery

(c) Supermarket Low margin, low cost - serve efficiently with standard products and schedules

(d) Events company Low margin, high cost - share cost data, remove discounts or add change fees, offer a

service menu; consider long-term value before exiting

STRATEGIC MANAGEMENT ACCOUNTING | M6 PART F.1.2 | WORKED ANSWERS

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