American Investment Management Service as One of the Larger Services Providing Companies in the USA - Assignment Example

American investment management services: A case study School Executive Summary American Investment Management Services (AIMS) has been veryprofitable over the past four years, but some of their customers remain unprofitable. In 2000 they had 3.88 million customers and over $500 billion in assets (AIMS, p.1). Their revenue in 2000 was $2.173 billion (AIMS, p.1). Customer profitability for an average customer is $204.05. However, not all customers are equally profitable. Customers are divided into groups according to their activity, wealth and age. Six main types are retirees, active traders, wealthy customers with over $2 million in assets, less wealthy customers with assets ranging from $500,000 to $2 million, boomers and young professionals. There were four groups of most unprofitable customers in 1999, as presented in Exhibit 3 of the case study. These were young professionals with 82% unprofitable households, boomers with 59% unprofitable households, others with 56% unprofitable households and retirees with less than one $100,000 in assets with 55% unprofitable households. Least unprofitable were retirees with assets above $100,000 with 9% unprofitable households. Changes occurred since 1999. Exhibit 3 shows that in 1999, the wealthiest customers were not the worst performing. In 2000, wealthiest customers were among the worst performing customers. Retirees remained the best performing customers in the tenth decile for both periods. However, the solution to unprofitable customers might be retention. Unprofitable customers can be turned into profitable once some of the services available to them are either eliminated or a fee is charged. Once turned profitable, in the long run they can increase company’s profits. If customer retention is high and acquisition is done wisely so that no new unprofitable customers are attracted and retained, the company can increase the number of customers, as well as their profits. Introduction AIMS is one of the larger services providing companies in the USA. In 2000 they had 3.9 million customers and over $500 billion in assets (AIMS, p.1). They span two different product lines: mutual funds and full – line brokerage services. They have three different distribution channels and different types of customers based on age, activity and wealth. There are six main types of customers. Six main types are retirees, active traders, wealthy customers with over $2 million in assets, then less wealthy customers with assets ranging from $500,000 to $2 million, boomers and young professionals. Largest group are the boomers, with 1.8 million customers (AIMS, p.3). This paper will analyze customer profitability of this company for the period 1999 - 2000 and conclude whether measures should be taken to reduce the costs and number of unprofitable customers. Question 1 Customer profitability analysis (CPA) is by definition “the net dollar contribution made by individual customers to an organization” (Mulhern, 1999, p.26). The level of analysis can be the firm, a business unit, brand or a product ( Mulhern, 1999, p.26). The value obtained informs the firm about the profitability of an individual customer. In this case, the profitability will be calculated for an average customer, excluding the new customers and costs associated with them. The purpose of CPA is to account for customer differences in their profitability to the firm, and target more profitable customers (Raaij et al., 2003, p.573; Blatberg and Deighton, 1996, p.136). In order to measure the customer profitability, data on individual customers are needed. A database needs to be compiled that would include not only different types of customers based on their characteristics, but also how much each cost the company, what were the different costs and finally, how much revenue was produced on each individual customer. In case of AIMS, data needed for CPA are present in Exhibit 2 of the case study. The data on costs are: costs of customer services such as phone calls, marketing and retention of already existing customers, communication between different branches within the firm, costs of maintaining accounts and processing transactions and on line assistance. The revenue was obtained for the same year for which costs were taken, in this case the year 2000. Following is the methodology used in the calculation. Since the focus of this analysis is on an average current customer, total revenues are subtracted from total costs (excluding costs accrued to new customers), which will provide total customer profits (Valkre Solution Inc., 2009, p.4). Then, the profits will be averaged over all customers to obtain CPA per customer. The resulting value is 204.05, which is different from 205 because there was no rounding off in the calculations that led to the former value, as shown in Table 1 at the end of this paper. Questions 2 – 7 explain how profit per average customer has been obtained. Question 2 The total revenues, as stated in Exhibit 2, are $2.17 billion. As mentioned in the introduction, these are yearly revenues from total brokerage and mutual funds fees. Question 3 Costs for current customers are $1,381 million. This result has been obtained by adding up all of the costs, excluding acquisition and new accounts setup costs. Question 4 Profit for current customers is total revenues minus the cost for current customers, amounting to $791.7 million. Question 5 As mentioned in the case study, number of current customers in 2000 is 3.88 million. This is an increase from 1.8 in 1995. Question 6 Average profit is defined as profit for current customers divided by a number of current customers. Since profit for current customers amounts to $791.7 million and the number of customers is 3.88 million, the average profit amounts to $204.05, which is the same as average customer profitability obtained in question 1. Question 7 The explanation of this figure has been given in Question 3. Question 8 There were four groups of customers with largest shares of unprofitable customers in 1999, as presented in Exhibit 3 of the case study. These were young professionals with 82% unprofitable households, boomers with 59% unprofitable households, others with 56% unprofitable households and retirees with less than $100,000 in assets with 55% unprofitable households. Least unprofitable were retirees with assets above $100,000, with 9% unprofitable households. They were the most profitable branch of customers. Wealthiest customers were less profitable than the group of retirees mentioned above. The analysis of Exhibition 3 indicates that wealthiest customers are not necessarily the most profitable. As has been seen, wealthiest customers were not most profitable, though they were not the least profitable group either. The analysis indicated that smallest customers in this case, however, were the least profitable. Manager should reconsider customer activities. Since every manager cares about profits to the firm that each customer brings, the manager should increase performance of least profitable customers, or eliminate them. Retirees should be focused on and the activities regarding this group should be enhanced. Profits of wealthy customers could also be increased. Question 9 In this question, profitability of each group of customers needs to be estimated in Exhibit 4 for year 2000. There are six groups of tenth decile household: boomers, young professionals, retirees, active traders, investors with over $2 million in assets and investors with $500,000 to $2 million in assets. Exhibit 4 provides only a number of services used by each customer. Thus, a total cost of these services needs to be calculated. In Exhibit 2, cost per unit of different services is provided. This will be used to estimate the total cost per group in Exhibit 4. Then profitability will be calculated as was done in question 1. Loss per customer is high. Biggest losses are seen in cases of active traders and customers with assets worth between $500,000 and $2 million, amounting to $1,664 and $1,577 respectively. The company suffered a loss of $1,389 for customers with $2 million. The loss per customer for retirees stood at $283, then $1,421 for boomers and for young professionals at $876. One could argue that loss per customer for retirees is and young professionals is not that high, but once aggregated, this loss is much larger and thus every manager must consider eliminating it. Results of this analysis can be seen in Table 3. Changes occurred since 1999. Exhibit 3 shows that in 1999, the wealthiest customers were not the worst performing. In 2000, wealthiest customers were among the worst performing customers. Retirees remained the best performers in the tenth decile for both periods. Young professionals became more profitable in 2000. Question 10 The losses per customer in question 9 need to be addressed for each group separately to find a best way to make them profitable to the company. Each group has different cost and revenue structure. Thus, each group must be addressed separately. For example, the wealthiest customers had high expenditures on rep assisted calls and branch visits. If branch visits are limited to only two and no rep assisted calls are allowed, profits would become positive. The tenth decile of the customers with $500,000 to $2 million in assets had 200 rep assisted phone calls. If they are limited to 42, profits would become positive. The smaller the number of rep assisted phone calls, the higher the profits would be. For active traders, eliminating their right to rep assisted phone calls would not be enough. Additionally to phone calls, number of transactions could be limited to 20. Automated calls are large as well, amount to $478, but this would be hard for the company to control. Retirees and young professionals are among less unprofitable customers in the tenth decile. Their rep assisted phone calls could be limited to 10 for retirees, which would produce positive profits to the company. Young professionals produce high costs not only through rep assisted calls, but also through on line visits. Eliminating their right to rep assisted phone calls would not be enough. Yet, eliminating on line visits might decrease efficiency and revenues of the company. Thus, though they should not be eliminated, they could be charged at $1.4 per visit. These two changes would produce profits to the company. Boomers are a larger group, so even though losses are large, they are smoothed among customers of that bracket. Eliminating rep assisted phone calls and branch visits would not be enough. Online quotes could be charged, at $0.02 per quote. Results can be seen in Table 4. Question 11 AIMS has increased its excess capacity levels since 1995. AIMS has been growing fast over the past years. In order to prepare for an increasing demand by having a large enough capacity to deliver services on time (Gurses, 1999, p.28), capacity was increased across the process value chain. The increase in capacity occurred at a faster rate than usage, which created excess capacity. In 1995, excess capacity stood at 10% in the operating expenses base. Since 1995 and until 1999 AIMS has increased its capacity at a compound rate of 26%. Customer base grew in the same period at a compound rate of 21%. This question assumes that customer base was 3 million and excess capacity 10%. This implies lower per unit costs than they really were in 1999 (Crotty, 2002, p.34). In 1999, total costs stood at $1,362.4 million. After adjustments, they are $901 million, as shown in Table 2. At a lower excess capacity and lower number of customers, total costs decrease. Question 12 Some customers are profitable, whereas others are not. As has been shown in question 11, the tenth decile of all customer types produced losses in 2000, which can be seen in the calculations for question 9. The same occurred in 1999, which can be seen in Exhibit 3. Profits can be increased and unprofitable customers still kept. Even though the tenth decile of all customer types is unprofitable, these customers can become profitable if some of the services are made unavailable to them, or they are charged additionally for services (Mittal et al, 2008, p.1). In short, managers should consider practicing price discrimination. Price discrimination means charging different customers a different price, which in this case is possible because customers are heterogeneous and thus distinguishable (Stavins, 1996, p.3). Reichheld (1996) argued that customer retention of 10% to 25% a year can double up the profits to a firm (p.2). Once profitable and retained, the current customers can have a positive effect on the company. More customers can be gained in the long run. According to Reichheld (1996), companies in the US lose half of their customers every five years (p.1). Thus, if AIMS retains all of them, within five years it could also double up the number of customers. However, Haenlein and Kaplan (2009) pointed out that unprofitable customers should not be acquired in the first place (p.90). Their argument is that unprofitable customers can be recognized before acquisition, which could also be claimed for AIMS, based on the data on categories and their profitability. It is always possible that customers will be lost if additional fees are charged. Depending on the price elasticity of demand (Stavins, 1996, p.3), an increase in costs to the customer might have an adverse effect. High elasticity would lead to a loss of unprofitable customers, but these customers are unprofitable anyways, so this would be a cost the company cannot avoid. References American Investment Management Services. Case Study, 1 -8. Blatberg, R.C., & Deighton, J. (1996). Manage marketing by the customer equity test. Harvard Business Review, 74 (4), 136 – 144. Crotty, J. (2002). Why is there chronic excess capacity. The Market Failure Issues, 45(6), 21 – 44. Gurses, A.P. (1999). An activity- based costing and theory of constraints model for product- mix decisions. Thesis submitted to the Faculty of the Virginia Polytechnic Institute and State University in partial fulfillment of the requirements for the degree of Master of Science in Industrial and Systems Engineering. Retrieved from http://scholar.lib.vt.edu/theses/available/etd-070999-111058/unrestricted/thesis.pdf. Haenlein, M., Kaplan, A.M. (2009). Unprofitable customers and their management. Business Horizons, 52, 89 – 97. Mittal, V., Sarkees, M., & Murshed, F. (2008). The right way to manage unprofitable customers. Harvard Business Review, 86(4), 94 - 103. Mulhern, F.J. (1999). Customer profitability analysis: Measurement, concentration and research directions. Journal of Interactive Marketing, 13(1), 25 – 40. Stavins, J. (1996). Price discrimination in the airline market: The effect of market concentration. Federal Reserve Bank of Boston. Retrieved from http://bostonfed.org/economic/wp/wp1996/wp96_7.pdf Raaij, E.M. van, Vernooij, M.J.A., & Triest, S.A. (2003). The implementation of customer profitability analysis: A case study. Industrial Marketing Management, 32, 573 – 583. Reichheld, F.F. (1996). Learning from customer defections. Harvard Business Reviews, 72 (2), 56 - 69. Valker Solution, Inc. (2009). Customer profitability analysis. Retrieved from http://valkre.com/publications. Tables Table 1 Average Profit per Customer Estimate in $ Total Revenues 2173000000,00 Costs A. Branches 65200000,00 B. Rep Assisted 574200000,00 C. Automated 56200000,00 D. Visits 101600000,00 E. Quotes Only 14400000,00 F. Account Maintenance 253200000,00 G. Transactions Processing 200100000,00 H. Development & Retention 116400000,00 Costs for Current Customers 1381300000,00 Profits for Current Customers 791700000,00 Number of Customers 3880000,00 Average Profit per Customer 204,05 Table 2 Estimated Size of the Total Costs in 1999 in $ Variable Name Estimate Technique Total cost in 1999 1362400000,00 cost(1995)*(1+0,26)^4 Total cost in 1995 540533300,37 Number of customers in 1995 1800000,00 customers (1995)*(1,21)^4 Number of customers in 1999 3880000,00 3858459,86 Total cost in 1999 adjusted 900888833,96 cost (1995)*3/1.8 Read More