Johnson Beverage Inc

As president and main owner of Johnson Drink, Inc. (JBI), Jack Johnson was beginning to realize that maintaining long-lasting clients was ending up being an obstacle. During a shipment run yesterday, driver Joe Stevens had actually seen a rival's sales manager talking with the general supervisor of Saver Superstore, among JBI's biggest clients. Then, that morning, Johnson's sales supervisor, Marsha Ketchum, had actually discussed that, during her go to with the very same general manager on Wednesday, he was starting to make some noises about wishing to work out a lower price.

This might trigger a problem due to the fact that this consumer had been among the business's largest and most devoted consumers for several years.

Johnson leaned back in his chair. These things always appeared to come up on Friday-- just in time to monopolize his thoughts over what otherwise would have been a peaceful weekend. Deciding to deal with the circumstance head on, he scheduled a meeting with Stevens, Ketchum, and numerous others for later that afternoon.

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Business Background

JBI dispersed beverages to retail clients. The company had actually stayed in business for two decades and had actually ended up being a favored distributor amongst several retail outlets in the area. JBI mostly dispersed bottled sports beverages made by little specialized beverage business, and its service had grown steadily with the appeal of sports drinks over the past 10 to 20 years. Last year, JBI's earnings totaled $12 million. The business serviced about 20 customers whose beverage purchases amounted to anywhere from about $100,000 to over $1 million every year.

The undiscounted sale price on the sports beverages that JBI distributed was $15.20 per case of 24 bottles. The complete cost (excluding customer service costs) of the bottled drinks was $13.10 per case. The company provided discount rates to a few of its consumers, which varied by consumer based on a number of elements, including the volume of drinks the consumer acquired, the future potential of the customer, and the working out success of the company's sales representative, to name a few.

The Meeting

Johnson opened the meeting by summarizing what he had heard from Stevens and Ketchum over the past couple of days. “It looks like we’ve got some competition for one of our best customers: Saver Superstore. I guess I’m not too surprised. They’re a big customer.” “This isn’t the first time this has happened,” added Ketchum. “You might remember that this same competitor has approached Saver Superstore before. But that time, we were able to keep the business by offering a bit more of a discount. I think we’ll have to do more of that this time, or I’m afraid we’ll lose the customer.”

Johnson responded quickly. “We can’t get into a price war on this. I know this is a big customer, and a loyal one too, but it’s certainly not one of our most profitable. I had Jim pull some numbers together on several of our accounts. Saver Superstore is one of our lowest-margin customers. Take a look.” Jim Thomas in accounting, who was also in the meeting, had prepared a report (Exhibit 1), which Johnson laid on the table for the others to look at. Thomas explained how the accounting group compiled the numbers: For each customer, we just pull the revenues right out of the accounting system. We know what they ordered and what we shipped, and we know what price we charge each customer, so that part is pretty easy.

And we know that the cost per case, excluding our customer service costs, is $13.10. So we can multiply $13.10 per case by the number of cases we shipped to get our cost of goods. Then, we subtract our cost of goods from revenues for each customer and get a gross margin. Now, you may remember that we’ve talked about how hard it is to trace our customer service costs to any particular customer. Our customer service costs run about $1.2 million a year, roughly 10% of revenues. To make things easy, we allocate those to each customer based on its share of the company’s total revenues. So if a customer accounts for 5% of our revenues, we allocate it 5% of our customer service costs. Then, we calculate a customer margin for each customer.

Johnson looked at the numbers and said:
I don’t think we can lower our price to Saver Superstore much more and make any money on this one. And just think, if we offer a larger discount to them, then we’ll have our other customers wanting the same thing—especially the other big ones. I can see it now: Marsha is going to walk in here next month and tell us that Oscar’s OddLots has heard about the deal we struck with Saver Superstore, has been talking with that competitor, and they want the same thing.

Oscar’s OddLots, a large local retailer on the edge of town, was another of JBI’s large customers.
Jason Rodgers, the operations manager for JBI, was listening carefully. This was the first he had heard of the situation, but to a careful observer, his nod would have revealed what he was thinking. He said:

You know, I’m not a bit surprised to hear all this. Saver Superstore is a great customer. They buy lots of beverages, and they’re easy to deal with. They place their orders on a regular basis and almost never ask for anything special. I don’t remember the last time we had to run around in the warehouse pulling together a rush order from them. Who wouldn’t want that business?

Stevens agreed, “You’re right. I almost never have to change my delivery schedule because they’ve asked for quick delivery. And they’re right around the corner, so they’re easy for us to get to.”

Rodgers continued:

I think about some of our other customers. They seem to never be able to anticipate that they’ll be out of stock. Then they call us and make it our problem to deal with. It seems like we have some customers that we work on all day every day. Why can’t that competitor go after those customers? It’s hard for me to believe that some of those customers are more profitable than Saver Superstore. Maybe we ought to add what we guys in the warehouse call a “pain factor” onto those other customers and then see who is most profitable for us. As Johnson listened, he realized Rodgers might be onto something. “Jim, what types of costs are included in those customer service costs?”

Thomas replied, “Well, that number includes several things.” He continued: It includes anything related to handling the beverages, like picking the beverages from the warehouse shelves according to the order instructions, moving the beverages over to the dock, and loading them on the delivery truck. It includes any costs related to taking, coordinating, and administering the orders, like what we pay the people in the sales office who take phone orders from customers, the supervisory costs to administer the order, and similar things.

It includes anything related to delivering the beverages to the customer’s location, like the cost of the delivery trucks, truck maintenance, and what we pay Joe and people like him to drive the trucks. It includes anything related to all those rush orders you’re talking about, like overtime, extra scheduling, and stuff like that. And it includes what we pay Marsha for what she does, like visiting the customers to check in on them. So there’s quite a bit of stuff in there.

Johnson thought about this. “So you’re telling me that there are some customers that you are spending a lot more time on than others? And it’s not Saver Superstore?”

“That’s right,” Rodgers replied.

Johnson continued, “But since our accounting system is allocating these customer service costs based on revenues, and since Saver Superstore is one of our biggest customers, it’s allocating a large share of those costs to Saver Superstore.” “Exactly,” Thomas said.

Let me do this: Let me spend a couple of days collecting some information. I’ll need some help from each of you because I want to try to find out how much of your time you are spending on each of our customers. Maybe it’s time to get more sophisticated about how we look at these customer service costs. It may be worth the effort.

Stevens, Ketchum, and Rodgers all agreed to spend some time with Thomas so he could summarize the amount of activity they devoted to each customer. They would meet again the following Friday. Thomas promised to compile an analysis that might help them determine how profitable each of their customers really was.

Activity Analysis

Before he left for the weekend, Thomas decided to pull together some information about the customer service costs he had described in the meeting: handling the product, taking the orders, delivering the product, expediting rush orders, and visiting the customer. He searched through the accounting system and determined how much of the annual $1.2 million in customer service costs was associated with each of those categories (Table 1). Table 1. Customer service costs during the prior year by area of activity. Area of activity

Total $

Product handling
Taking orders from customers
Delivering the product
Expediting deliveries (other than automobile)
Sales visits to customers
Total

$ 672,000

100,000
140,000
198,000
90,000
$ 1,200,000

Then, on Monday, Thomas met individually with Stevens, Ketchum, and Rodgers. With their help, he determined what he thought to be the primary driver of the costs in each of those customer service categories (Table 2).

Table 2. Cost drivers by area of activity.
Area of activity

Cost driver

Product handling
Taking orders from customers
Delivering the product
Expediting deliveries (other than automobile)
Sales visits to customers

Number of cases sold
Number of purchase orders
Number of miles traveled
Number of expedited deliveries
Number of sales visits

Thomas determined from the company’s accounting records that the company sold 800,000 cases of beverages and processed 500 purchase orders the previous year. Stevens checked the mileage records for the delivery vehicles and determined that the vehicles had traveled a total of 44,800 miles. Rodgers was able to determine that the company made 4,480 deliveries, 2,500 of which were expedited deliveries. And finally, Ketchum checked her daily travel log to determine she had made a total of 360 sales visits to the company’s customers. Thomas’s next step was to determine how much of these cost drivers were attributable to each customer. Again, he was able to obtain some of that information (e.g., number of cases) relatively easily from the company’s records. Then his colleagues helped him determine customer numbers for the rest of the activities. Exhibit 2 presents this data for the four customers included in Thomas’s first report (Exhibit 1).

Exhibit 1

JOHNSON BEVERAGE, INC.
Report of Customer Profitability during the Previous Year for Four Customers Prepared by Jim Thomas

Net revenues
Cost of goods
Gross margin
Customer service costs
Customer profit
Customer profit (% of net revenues)

Saver
Superstore
$ 1,168,000
1,048,000
$ 120,000
116,800
$
3,200
0.3%

Oscar’s

OddLots
$ 1,192,000
1,048,000
$ 144,000
119,200
$ 24,800
2.1%

Midwellen
Supermarket
$ 121,520
104,800
$ 16,720
12,152
$ 4,568
3.8%

Downtown
Retail
$ 454,500
393,000
$ 61,500
45,450
$ 16,050
3.5%

Total for JBI
$12,000,000
10,480,000
$ 1,520,000
1,200,000
$ 320,000
2.7%

Exhibit 2
JOHNSON BEVERAGE, INC.
Additional Information from Prior Year for Four Customers

Price per case
Number of cases
Number of orders
Number of deliveries1
Miles traveled per delivery
Number of expedited deliveries
Number of sales visits

1

Saver
Superstore
$14.60
80,000
16
110
5
10
12

Includes both expedited and regular deliveries.

Oscar’s

OddLots
$14.90
80,000
40
400
19
250
25

Midwellen
Supermarket
$15.19
8,000
20
200
11
130
18

Downtown
Retail
$15.15
30,000
30
230
4
90
9

Total for JBI
$15.00
800,000
500
4,480
10
2,500
360