Topic Focus: Customer Profitability Full Test Bank Davis

TF5 – Topic Focus Customer Profitability

TRUE-FALSE STATEMENTS

1. As long as the sales revenue a customer generates exceeds the cost of goods sold associated with the customer’s sale, the customer is profitable.

provide customer service and support, such as warehousing, billing, and order processing are also costs associated with a customer, LO: 1, Bloom: C, Unit: TF05-1, Difficulty: Easy, Min: 1, AACSB: Analytic, AICPA FN: Reporting, AICPA PC: None, IMA: Reporting

1. In their book Killer Customers, Larry Selden and Geoffrey Colvin estimate that the top 20% of a company’s customers generate approximately 120% of the company’s profits.
2. In their book Killer Customers, Larry Selden and Geoffrey Colvin estimate that the bottom 5% of a company’s customers lose as much as 100% of the company’s profits.
3. If unprofitable customers cannot be turned into profitable ones, the company should never drop them.

LO: 1, Bloom: C, Unit: TF05-1, Difficulty: Easy, Min: 1, AACSB: Analytic, AICPA FN: Reporting, AICPA PC: None, IMA: Reporting

1. Selling expenses are expenses that are associated with only the delivery of products to the customer.
2. One way for managers to get an estimate of customer profitability is to allocate expenses to customers through activity-based costing.
3. Calculations to measure customer profitability include customer net profit and customer profit margin.
4. Customer net profit is determined by subtracting cost of goods sold associated with a sale to a customer from the customer revenues.
5. Customer profit margin is calculated by dividing customer net profit by customer revenues to obtain the profit percentage the customer generates for the company.
6. The customer net profit shows managers how many dollars a customer contributes to the company’s bottom line.
7. The customer profit margin allows managers to compare customers based on how much each dollar of revenue each customer generates that contributes to the bottom line, regardless of the customers’ absolute sales volume.
8. Customer profit margin is calculated as customer net profit divided by customer gross profit.
9. Before a manager decides to drop an unprofitable customer, the manager should evaluate all the implications of the action for the affected customer, for other customers, and for the company.
10. When a manager drops an unprofitable customer, a company’s total sales revenue and overall company profit will decrease.
11. Raising selling prices for unprofitable customers is a reflection of the cost of doing business with them.

MULTIPLE-CHOICE QUESTIONS

1. If the sales revenue a customer generates exceeds the cost of goods sold, the customer is considered
   1. profitable.
   2. a contributor to increased sales revenue.
   3. a favorable customer.
   4. Cannot determine from the information given
2. Measuring customer profitability solely by evaluating whether the sales revenue a customer generates exceeds the cost of goods sold ignores
   1. all the selling and administrative costs incurred to provide customer service and support.
   2. manufacturing costs incurred as overhead.
   3. all fixed costs.
   4. noncash expenses such as depreciation.
3. If an unprofitable customer cannot be turned into a profitable one, the company should
   1. consider lowering its selling price for the customer.
   2. dropping the customer.
   3. increasing the selling price until the customer become profitable.
   4. generally, keep the customer to avoid losing the customer’s contribution margin.
4. In their book Killer Customers, Larry Selden and Geoffrey Colvin estimate what percentage of a company’s customers generates approximately 120% of a company’s profits?
   1. 20%
   2. 40%
   3. 60%
   4. 80%
5. Selling expenses include which of the following?
   1. Storage of products and costs to receive and delivery products
   2. An allocated share of all company costs, and delivery of products to customers
   3. Delivery of products to customers, and an allocated portion of the CEO’s salary
   4. Storage of products, and delivery of products to customers.
6. Which of the following is not a selling expense?
   1. Rent on warehouse space
   2. Advertising on local TV station
   3. Indirect labor
   4. Depreciation on delivery truck
7. Which of the following are not administrative expenses?
   1. Controller’s salary and storage costs of inventory
   2. Depreciation on office equipment and controller’s salary
   3. Fixed overhead and factory supplies
   4. Controller’s salary and depreciation on office equipment
8. Which of the following is not an administrative expense?
   1. Factory supervisor’s salary
   2. Depreciation on office equipment
   3. Payroll clerk’s salary
   4. Janitorial supplies
9. The revenue a customer generates should cover which of the following costs?
   1. Product and administrative
   2. Selling and product
   3. Administrative and selling
   4. Product, selling, and administrative
10. Which of the following is not a step in using activity-based costing?
    1. Identify selling activities
    2. Calculate activity cost pool rates
    3. Calculate a predetermined overhead rate
    4. Calculate customer profitability
11. Which of the following is not a step in using activity-based costing to estimate customer profitability?
    1. Calculate the revenue per item sold
    2. Calculate activity cost pool rates
    3. Allocate selling costs to customers
    4. Calculate customer profitability
12. Which of the following is not a step in using activity-based costing to estimate customer profitability?
    1. Develop activity cost pools
    2. Calculate the product cost per unit
    3. Allocate selling costs to customers
    4. Calculate customer profitability
13. Two amounts that can be calculated to measure customer profitability are
    1. customer net profit and customer earnings per share.
    2. times revenue earned per customer and customer revenue margin.
    3. customer net profit and customer profit margin.
    4. customer revenue margin and customer profit margin.
14. Revenues a customer generates less cost of goods associated with those revenues and the selling expenses allocated based on the customer-specific selling activities is referred to as
    1. customer revenue margin.
    2. times revenue earned per customer.
    3. customer profit margin.
    4. customer net profit.
15. Which of the following measures shows manager how many dollars a customer contributes to the company’s bottom line?
    1. Customer net profit
    2. Customer revenue margin
    3. Times revenue earned per customer
    4. Customer profit margin
16. The measure calculated as customer net profit divided by customer revenues is referred to as
    1. customer revenue margin.
    2. times revenue earned per customer.
    3. customer profit margin.
    4. Customer net profit.
17. The customer profit margin is determined by dividing customer
    1. net profit by customer revenue.
    2. net profit by customer profit margin.
    3. revenue by customer net profit.
    4. profit margin by customer revenue.
18. The customer profit margin allows managers to compare customers based on
    1. absolute sales volume.
    2. how much each dollar of revenue a customer generates goes to the bottom line, regardless of the customers’ absolute sales volume.
    3. how many dollars a customer contributes to the bottom line.
    4. average contribution margin.
19. The formula for the customer profit margin is customer
    1. net profit divided by customer revenue.
    2. revenue divided by customer cost of goods sold.
    3. revenue less cost of goods sold less allocated selling expenses.
    4. profit margin less allocated selling and administrative expenses.
20. Unprofitable customers should be
    1. dropped to prevent further profit reductions.
    2. evaluated for implications that any action will have on the customer, other customers and the company.
    3. evaluated for implications that any action will have on the customer.
    4. assessed fees to cover extra costs incurred by the company to service the customer.
21. Which of the following is a step managers might take after identifying an unprofitable customer?
    1. Identify the reason the customer is unprofitable.
    2. Work with the customer to increase selling prices.
    3. Assess fees to cover extra costs incurred by the company to service the customer
    4. Eliminate the customer.
22. Which of the following is not an example of how a company can help a customer become a profitable customer?
    1. Encourage the customer to order in larger quantities to reduce shipping charges.
    2. Encourage the customer to order through cheaper internet sales channel rather than the more costly catalog sales channel.
    3. Encourage the customer to delay payment on the customer’s account to forgo any sales discount.
    4. Ask the customer to pay all shipping charges
23. If a customer cannot be returned to profitability and the customer is dropped, the
    1. company’s overall profit will increase.
    2. company’s revenue will decrease in the short-run.
    3. managers will have more resources to serve profitable customers
    4. company’s overall profit will increase, the company’s revenue will decrease in the short-run, and the managers will have more resources to serve profitable customers.

BRIEF EXERCISES

1. For each item below, identify whether the item applies to customer net profit or customer profit margin by marking an “X” in the appropriate column.

LO: 1, Bloom: C, Unit: TF05-3, Difficulty: Easy, Min: 3, AACSB: Analytic, AICPA FN: Reporting, AICPA PC: None, IMA: Reporting

1. Georgia Manufacturing Company has provided the following information for calculating cost pool rates for selling activities:

Required:

Calculate the activity cost pool rate for each selling activity.

LO: 1, Bloom: AP, Unit: TF05-2, Difficulty: Moderate, Min: 4-5, AACSB: Analytic, AICPA FN: Reporting, AICPA PC: None, IMA: Reporting

EXERCISES

1. Assume you are a sales manager responsible for analyzing the profitability of the customers in your territory. You have gathered the following information on one of your customers:

Required:

• 1. Calculate the customer net profit.
  2. Calculate the customer profit margin.

1. $400,000 ̶ $320,000 ̶ $5,000 ̶ $10,000 ̶ $24,000 ̶ $5,000 = $36,000
2. $36,000 ÷ $400,000 = 9%

LO: 1, Bloom: AP, Unit: TF05-3, Difficulty: Moderate, Min: 3-4, AACSB: Analytic, AICPA FN: Reporting, AICPA PC: None, IMA: Reporting

1. Assume you are a sales manager responsible for analyzing the profitability of the customers in your territory. You have gathered the following information on one of your customers:

Required:

• 1. Calculate the customer net profit.
  2. Calculate the profit margin.

1. $300,000 ̶ $220,000 ̶ $5,000 ̶ $5,000 ̶ $20,000 ̶ $2,000 = $48,000
2. $48,000 ÷ $300,000 = 16%

LO: 1, Bloom: AP, Unit: TF05-3, Difficulty: Moderate, Min: 3-4, AACSB: Analytic, AICPA FN: Reporting, AICPA PC: None, IMA: Reporting

1. Some companies believe that as long as the sales revenue a customer generates exceeds the cost of goods sold, that the customer is profitable. However, companies incur product costs, selling costs, and administrative costs.

Required:

• 1. List three items that are classified as product costs.
  2. List three items that are classified as selling costs.
  3. List three items that are classified as administrative costs.

Answers will vary. Some examples are:

1. Direct material, direct labor, manufacturing overhead. An example of direct material is wood for furniture. An example of direct labor is assembly line workers’ salaries. An example of manufacturing overhead is depreciation on factory equipment.
2. Examples of selling costs include storage of finished goods, delivery or shipping charges, sales commissions, and depreciation on delivery truck.
3. Examples of administrative costs include the president’s salary, depreciation on office equipment, salary of accounts payable clerks, insurance on home office, and janitorial supplies used in home office.

LO: 1, Bloom: C, Unit: TF05-1, TF05-2, Difficulty: Easy, Min: 5-6, AACSB: Analytic, Communication, AICPA FN: Reporting, AICPA PC: Communication, IMA: Reporting

1. Two calculations can be made to measure customer profitability: customer net profit and customer profit margin.

Required:

• 1. What is the formula for customer net profit?
  2. What is the formula for customer profit margin?

1. Customer net profit = Customer revenues – Cost of goods sold – Allocated selling expenses
2. Customer profit margin = Customer net profit ÷ Customer revenues

LO: 1, Bloom: K, Unit: TF05-3, Difficulty: Easy, Min: 3, AACSB: Analytic, AICPA FN: Reporting, AICPA PC: None, IMA: Reporting

ESSAY

1. It may appear that all unprofitable customers should be dropped. However, before any action is taken, managers should evaluate all the implications of the action for the affected customer, for other customers, and for the company.

Required:

• 1. Explain three implications for the affected customer.
  2. Explain three implications for other customers.
  3. Explain three implications for the company.

Answers will vary. Some examples include:

1. If an unprofitable customer takes initiative to become profitable, the actions may increase the customer’s efficiency in placing and receiving orders, possibly saving money for the customer. The customer may upgrade processes that may require cash outflow up front but improve processes in the long run. If customers do not make needed changes, the company may raise prices to create a profitable customer. A higher cost to the customer will negatively affect profit. If the customer cannot become profitable and is dropped by the company, the customer is faced with finding the product at another supplier or, at worst, not being able to purchase the needed items.
2. The effect on other customers may be negative or positive. For example, if an unprofitable customer is requiring too much time from the company, less time will be available to service profitable customers. This may negatively impact the profitable customer. If an unprofitable customer has frequent and short-notice delivery requests, if a profitable customer needs a delivery his or her delivery may not be made in a timely manner. If an unprofitable customer is forced to pay a higher price in an effort to convert the customer to a profitable one, the profitable customers will not have the same price increase and will be able to sell the same product at a lower price to its customers, possibly increasing sales. If an unprofitable customer is dropped, profitable customers may receive additional customers.
3. If the company drops an unprofitable customer, the effect on the company may be that its overall profitability will increase even through total sales revenue will decrease. If other profitable customers simply take the unprofitable customer’s business, revenue will remain at the same level. Managers will have more resources to serve profitable customers, and overall customer satisfaction and sales will eventually increase. If the company can turn an unprofitable customer into a profitable one by working with the customer, the relationship will be strengthened.

LO: 2, Bloom: C, AN, Unit: TF05-5, TF05-6, Difficulty: Moderate, Min: 10-12, AACSB: Analytic, AICPA FN: Reporting, AICPA PC: Communication, IMA: Reporting