Activity-based management (ABM)

3.1. Example of customer cost analysis

To better understand how customer cost analysis is done, let's look at the following example.

Friends Company, a manufacturer of valves, has the following customer costs and cost rates:

Activity

Cost Driver

Cost Rate

Order taking

Orders taken

$25 per order

Order processing

Processed orders

$18 per order

Order processing

Processed items

$1.25 per item

Delivery

Number of orders

$120 per order

Delivery

Miles

$ 1 per mile

Expedited delivery

Number of expedited orders

$600 per order

Customer visits

Number of visits

$160 per visit

Monthly billing

First statement

$6 per statement

Monthly billing

Subsequent reminders

$15 per reminder

Sales returns

Number of returns

$80 per return

Restocking

Number of items returned

$5 per item returned

Friends Company also incurred the following costs: $120,000 per month in sales personnel salaries and $60,000 per month in office expenses.

The abovementioned costs, as well as the costs in the table above, can be grouped as follows:

Customer Cost Category

Customer Cost

Customer unit-level costs

Order processing (per unit)

Restocking

Customer batch-level costs

Order taking

Order processing (per order)

Delivery (per order)

Delivery (per mile)

Expedited delivery

Sales returns

Customer-sustaining costs

Sales visits

Monthly billing (1st statement)

Monthly billing (subsequent reminders)

Sales-sustaining costs

Sales office salaries

Sales office expenses

To perform a customer cost analysis, let's continue the Friends Company's example. Friends Company has the following three customers: AutoCo, Motor, Inc., and Fast Bike LLC. The following data pertains to the aforementioned clients:

 

AutoCo

Motor, Inc.

Fast Bike LLC

Total sales

$ 100,000

$ 360,000

$ 450,000

Sales discounts

2,000

8,000

14,000

Sales returns and allowance

12,000

15,000

65,000

Cost of goods sold

56,000

260,000

302,000

 

Number of orders

7

16

44

Average items per order

500

380

150

Delivery miles

20

35

46

Number of expedited orders

0

1

6

Number of customer visits

1

2

4

Number of reminders

0

1

4

Sales returns

2

3

12

Average units per return

30

34

20

Let's look in greater detail at the calculation of the total customer cost of Motor, Inc.

Motor, Inc.

Activity

Cost ($)

Calculation

Order taking

400

= $25 per order x 16 orders

Order processing (per order)

288

= $18 per order x 16 orders

Order processing (per item)

7,600

= $1.25 per item x 16 orders x 380 items per order

Delivery (per order)

1,920

= $120 per order x 16 orders

Delivery (per mile)

560

= $1 per mile x 16 orders x 35 miles

Expedited delivery

600

= $600 per order x 1 order

Customer visits

320

= $160 per visit x 2 visits

Monthly billing (1st statement)

6

= $6 per statement x 1 statement

Monthly billing (reminder(s))

15

= $15 per reminder x 1 reminder

Sales returns

240

= $80 per return x 3 returns

Restocking

510

= $5 per item x 3 returns x 34 items per return

Total

$ 12,459

 

Using the formulas presented in the table above, we can calculate the customer cost of AutoCo and Fast Bike LLC. The customer cost analysis of the Friends Company's three clients is as follows:

 

AutoCo

Motor, Inc.

Fast Bike LLC

Order taking

$ 175

$ 400

$ 1,100

Order processing (per order)

126

288

792

Order processing (per item)

4,375

7,600

8,250

Delivery (per order)

840

1,920

5,280

Delivery (per mile)

140

560

2,024

Expedited delivery

0

600

3,600

Customer visits

160

320

640

Monthly billing (1st statement)

6

6

6

Monthly billing (reminder(s))

0

15

60

Sales returns

160

240

960

Restocking

300

510

1,200

Total

$ 6,282

$ 12,459

$ 23,912

After we have determined the cost of each customer, now we can perform the customer profitability analysis.

Not a member?
See why people join our
online accounting course:
Lecture Contents:
Free Study Notes
Download free accounting study notes by signing up for our free newsletter (example):
First Name:
E-mail:
We never share or sell your e-mail to third parties.