The impact of activity-based costing (ABC) on customer profitability analysis (CPA) has attracted relatively little attention in the management accounting literature. BellisJones[1], Howell and Soucy[2] and Smith[3] have examined the importance of customer profitability without exploring the potential usefulness of ABC in developing an accurate CPA. CPA is justifiable if the cost-benefit of compiling the information is favourable and the outcome of any subsequent strategic decision leads to income increases. Strategic decisions may range from changing the delivery terms of a customer’s contract to terminating business dealings with an unprofitable customer. Smith[3] observes that strategic consideration of customer-related costs can lead to a cost-effective change in the way customers’ needs are satisfied. Figure 1 encapsulates the range of possible customer expense categories and identifies four key factors which impact on customer profitability. Further embellishment of this figure for each of the key factors allows the development of characteristics which distinguish profitable from unprofitable customers. A consideration of discounts, commissions and sales support allows the impact of purchasing patterns to be specified, as shown in Table I. Discount and commission data, sorted by customer, is likely to be readily available in most computerized accounting systems. However, the determination of field service and sales support costs for each customer will necessitate some form of ABC. For example, the average length of time spent taking a customer’s order might be measured and then applied as a weighting factor to the number of telephone calls made. Large switchboard systems are capable of providing such statistics automatically. Time and information management systems can be added to smaller telephone systems to collect statistics relating to the frequency of calls to customers’ telephone numbers. Sales representatives’ planning sheets or an associated computerized system could provide statistics regarding the number and distance of customer visits. Alternatively, an estimated number of calls per customer, weighted according to the distance of the visit, might be used as a basis of allocation of sales-support costs. Ultimately, significant purchasing pattern dollars revealed in a customer profitability analysis should focus management’s attention towards attempting to modify a customer’s purchasing behaviour. A consideration of distribution costs and frequency and special delivery requirements allows a further distinction to be made, as shown in Table II. Even with ABC, the split of the distribution cost between customers on a common delivery run is difficult. Assuming each delivery consumes the same amount of time, the most logical allocation of distribution cost is an even split between all customers to reflect capacityconsuming packaging or, more commonly, significant distances from the distribution point. The number of customer deliveries should be extractable from the sales ordering system and will be a useful input to the process of allocating distribution and shipping frequency costs to customers. Resource costs associated with shipping frequency might be split between standard and non-standard shipping activities, the latter requiring some form of manual monitoring. However, such a process will be worthwhile if it highlights those customers who place abnormal resource-consuming demands on the organization. The impact of differential ordering and debt-handling procedures on the cost of the accounting function further specifies the characteristics typical of the unprofitable customer, as shown in Table III.

Figure 1. Expense categories impacting on customer profitability

Customer profitability:1`Purchasing patterns 2- Delivery policy 3- Accounting procedures 4- Inventory holding

Table II. Delivery policy and customer profitability

Expense Characteristics of profitable customers Characteristics of unprofitable customers

Distribution expenses Located close by, standard packaging, Located long distance ,unique capacity

barcode reading consuming packaging

Shipping frequencies Infrequent large-lot deliveries Daily deliveries with additional deliveries on demand Freight fleet requirements No special requirements Require purchase or conversion of custommade delivery trucks

Table I. Purchasing patterns and customer profitability

Expense Characteristics of profitable customers Characteristics of unprofitable customers

Cost of volume discounts Nil to low discounts Large discounts

Size of agent’s commissions Low commissions High commissions

Cost of field service to maintain products Infrequent, successful order-getting Lengthy delays in obtaining daily telephone calls orders by telephone

Cost of sales support Few visits Frequent calls, assistance with administrative administrative operations, help with in-store displays

Table III. Accounting procedures and customer profitability

1-Expense- Characteristics of profitable customers- Characteristics of unprofitable customers

2-Sales credits - Collates any sales credits and claims monthly -Initiates separate sales credits for each item of product returned

3-Settlement Discounts,- Discounts if any, apply to cash sales - Receives discounts on accounts greater than seven days

4-Debtor collection support -Pays on time- Pays late

5- Order processing - Maintains regular bulk orders -Requires immediate crisis deliveries resulting from stockouts, but whose order details are so complex that multiple queries result before the transaction can be completed.