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Ch 6 Measuring and Managing Customer Relationships.docx

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Susan Lade

BU247 Lecture 11-12 Chapter 6 – Measuring and Managing Customer Relationships  Companies, in addition to costs of production, also incur marketing, selling, distribution, and administrative (MSDA) expenses  Most of these expenses are independent of the volume and mix of products that the company produces, so that they cannot be traced through causal relationships to products  Many of these expenses are incurred through multiple distribution channels.  Customers and channels differ considerably in their use of MSDA resources.  Companies must understand the cost of selling through various channels to diverse segments  Extend ABC to trace MSDA expenses directly to customer orders and to individual customers.  Metrics such as gross margins and product-line profitability can appear in the financial perspective of the Balanced Scorecard (BSC), while the process perspective can include metrics related to the costs of production and purchasing processes.  if the only info that managers have about customers is financial performance, then they may take actions that improve financial performance in ST but damage LT customer relationships  need both financial and nonfinancial metrics to manage their performance with customers.  To balance the pressure to meet/exceed customer expectations, companies must measure the cost to serve each customer and the profits earned  Ability to accurately calculate metrics (like % unprofitable customers) = important for ABC in BSC Example of Madison Dairy – Measuring Customer Profitability  Madison Dairy has annual revenues of 3 million, and its MSDA expenses are 900k (30% of revenues). Madison has 2 important customers, Carver and Delta, with about the same sales revenue. Gene (division’s controller) allocated MSDA expenses to customers as a % of sales revenue, leading to the data on the right:  Gene believed that carver was more profitable customer than Delta, because Carver ordered few products in large quantities, placed the orders predictable, and required little sales/technical support. However, Delta placed many small orders for special products, required expedited delivery, and used many technical resources.  When Gene launched an ABC tudy of the company’s MSDA costs, he developed capacity cost rates for all resourcs in the support departments (ex: accounts receivable department). He estimated time demands on various resources o obtain/process orders, distribute orders, and serve customers. BU247 Lecture 11-12  Gene found that Carver was more profitable than calculated in his previous report, which allocated MSDA costs as a fixed % of revenues. Characteristics of High and Low Cost-to-Serve Customers  Companies can make money with high CTS customers/ lose money with low CTS customers, but the info on MSDA costs incurred for each customer is vital for effective mgmt. of customer relationship Reporting and Displaying Customer Profitability  80-20 rule: 80% of land is owned by 20% of the population  80% of a region’s income/wealth was earned or held by the top 20%  this applies to companies products and customers too  when companies rank products and customers from highest volume to lowest, they find that their top-selling 20% of products/customers generate 80% of total sales  40-1 rule: lowest volume 40% of products/customers generates 1% of total sales  The 80-20 law applies to sales revenues, but not profits.  Whale curve: graph of cumulative profits vs. customers, constructed from an ABC customer profitability analysis customers are ranked on x-axis from most to least profitable. o The most profitable 20% customers generate about 180% of total profits (peak above sea level) the hump of a cumulative profitability curve generally gits 150-250% of total profits by 20-40% of most profitable customers o Middle 60% of customers is about break even o Least 20% profitable customers lose 80% of total profits  some of the largest customers fall on the far right-hand side of the curve because they’re among the most unprofitable. This is because small customers don’t do enough business with the company to incur large losses. Only large customers demand high discounts and make demands on technical, sales, etc. resources. o Large customers are usually the most profitable or the most unprofitable, rarely in middle. BU247 Lecture 11-12  High-profit customers, such as Carver, appear in the left section of the profitability whale curve  should be cherished and protected. Managers should offer discounts, incentives, and special services to retain the loyalty of these valuable customers  Customers like Delta appear on the right tail of whale curve, dragging profitability down to sea level with low margins and high cost to serve unpredictable order patterns, small order quantities for customized products, nonstandard delivery requirements, & demands on technical/sales personnel.  The opportunity for a company to identify its unprofitable customers and the transform them into profitable ones is perhaps the most powerful benefit that managers can receive from an ABC system. Customers Costs in Service Companies  Service companies must focus on customer costs and profitability (more than manufacturing companies do) because variation in demand for resources is much more customer driven  Customer independent: manufacturing company producing standard products can calculate production cost without regard to how their customers use them  only the costs of marketing, selling, order handling, delivery, and service of the products may be customer specific  For service companies, customer behaviour determines quantity of demands for resources  Measuring revenues and costs at customer level provides the company with more relevant info than at the product level  certain customers demand more than others Increasing Customer Profitability  Manufacturing and service companies can make breakeven/loss customers into profitable ones: 1) Improve processes used to produce, sell, deliver, and service the customer o Examine internal operations to see where they can improve to lower costs o Ex: if most customers are migrating to smaller order sizes, strive to reduce costs of setup and order handling so that customer preferences can be accommodated without raising overall price 2) Deploy menu-based pricing to allow customer to select features/services to receive/pay for o Activity based pricing establishes a base price for producing a standard quantity for each standard product  provide menu of options with associated prices o Pricing surcharges can be imposed when designing special variants for customer’s particular needs; discounts can be offered when customer’s order patterns lowers cost of supplying it o Activity based pricing prices orders, not products 3) Enhance the customer relationship to improve margins and lower the cost to serve o Managing customer relationships  persuade them to use greater scope of products/services o Establish minimum order sizes from unprofitable customers o Before taking action with a customer who has an unprofitable effect on one product line, managers should understand all relationships it has with that customer, and act on the basis of total relationship profitability, not just based on profitability of a single product o Some customers may be unprofitable because it is the start of the relationship with the company. The company may have incurred high costs to acquire the customer, and the customer’s initial purchases may have been insufficient to cover its acquisition and maintenance costs. No action is required at this point. The company expects and hopes that the customer’s purchases will increase and become profitable, including recovering any losses incurred in the start-up years. Companies can afford to be more tolerant of newly acquired unprofitable customers than they can of unprofitable customers they have served for 10+ years. 4) Use more discipline in granting discounts and allowances o Pricing waterfall: chart that shows many revenue leaks from list price cause by special allowances/discounts to build customer loyalty BU247 Lecture 11-12 o Each small discount seems like small concession to get the order, encourage sales, and receive prompt payment but can actually lead to huge revenue leaks from original list price o Companies fail to see revenue leaks because they record allowances in different systems and make revenue deductions at different times of the year in different accounts o The volume discount may be refunded to the customer only once it accumulates enough volume to qualify, and it’s not linked back to individual transactions that qualified for volume discount o Good to offer discounts to the low cost-to-serve customers o See page 230 for an example of discounts that companies incur o Now, mo
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