The Portable MBA in Finance and Accounting, 3rd Edition

138 Understanding the Numbers

better managed. Although our accountant classified these costs as expenses,

they are really an investment, and, at this amount, we would have to do a lot of

transactions just to recoup our investment in each customer. The key for us is to

identify better-qualified customers in the first stage and then to convert a

greater number of these to signed contracts.

Denise had only one question: “ Why did you charge the costs of the 70
customers you failed to convert to the 10 that you sold?”
Dave answered, “Actually, initially we broke out the cost of the 70, but we
felt that, as with any business process, you spoil some units in order to get good
ones (see Exhibit 4.4). It really cost us only about $8,000 to sell each best-case
customer and almost three times that for the worst-case one. But when you al-
located the cost of the 70 customers dropped during the process, these costs
increase dramatically. Don’t you agree?”
The depth of the analysis impressed Denise. She thought she might even
invest in this company. It was time for another summary.

There is no right answer, since we could argue over the correct way to allocate

the dropped-customer costs. But that is not what is important here. You have to

be careful with any reallocation procedure since this is a strategic analysis. You

have already noted that your only advantage was being first to enter. By your ac-

tions, I am not sure you know what that means. Since all of your technology

comes from third-party suppliers, the only way you will win in this industry is

to become the low-cost provider. Your first-mover advantage means simply that

you are first down the experience curve. Research has shown that as one re-

peats an activity, one can become more efficient and thus lower the cost of the

activity. This, however, does not happen automatically; one must manage the

learning process. Until we began the ABC analysis it seems that you had not

leveraged your first-mover advantage. Do you agree? Remember saying, “As an

organization, we were amazed at how much we didn’t know we knew”?

None of the three were willing to argue with her.

The key number in your exhibit is the $8,000 cost to sell a best-case customer. If

you were able to identify only those that understood your CVP and wanted to

EXHIBIT 4.4 Customer-sale activity analysis.

Best-Case Worst-Case Dropped Total

Number of customers 3 7 70 80
Estimated cost pool $24,000 $154,000 $ 232,000 $410,000
Cost /customer $ 8,000 $ 22,000 N/A N/A
Reallocation* $31,000 $201,000 $(232,000)
Adjusted cost pool $55,000 $355,000 — $410,000
Full cost /customer $18,300 $ 50,700

• Dropped Cost total was allocated based on relative total cost /customer ratios:

3 8 000

7

22 000 24 000

154 000

31 000

201 000

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