The cost benefit of customer service
All companies have to face a basic fact: there will be significant differences in
profitability between customers. Not only do different customers buy different
quantities of different products, but the cost to service these customers will typically
vary considerably. This issue will be explored more fully in Chapter 3.
The 80/20 rule will often be found to hold: 80 per cent of the profits of the business
come from 20 per cent of the customers. Furthermore, 80 per cent of the total
costs to serve will be generated from 20 per cent of the customers (but probably
not the same 20 per cent!). Whilst the proportion may not be exactly 80/20 it will
generally be in that region. This is the so-called Pareto Law, named after a nineteenth
century Italian economist.
The challenge to customer service management therefore is, firstly, to identify
the real profitability of customers and then, secondly, to develop strategies for service
that will improve the profitability of all customers. What has to be recognised is
that there are costs as well as benefits in providing customer service and that therefore
the appropriate level and mix of service will need to vary by customer type.
The basic relationship between the level of service and the cost is often
depicted as a steeply rising curve (Figure 2.7).
The curve assumes that demand for the item is ‘normally’ distributed, i.e. it
takes on the classic bell-shape. A feature of the normal distribution is that once
its two key parameters, the mean (x
–) and standard deviation (s), are known, the
probability of a given value occurring can be easily calculated. Thus, as Figure 2.8
shows, if the distribution depicted describes daily sales for a particular product, it
can be calculated that on approximately 68 per cent of occasions total demand
44 LOGISTICS & SUPPLY CHAIN MANAGEMENT
would be within plus or minus one standard deviation either side of the mean;
on approximately 95 per cent of occasions total demand would lie within plus or
minus two standard deviations either side of the mean and on 99 per cent of occasions
three standard deviations either side of the mean.