Linking Actions to Profits in Strategic Decision Making
Between 1990 and 1993, customers of the commercial waste-collection services of Browning-Ferris Industries (BFI) defected to competitors at a rate of 11% to 13% per year. Senior managers focused on raising customer satisfaction, but between 1995 and 1997, the defection rate increased to 13% to 15%. BFI’s original growth strategy of acquiring similar businesses that would provide new customers had become too expensive. The only alternative appeared to be customer retention, so managers began exploring what effect it could have on profit. When they discovered that a mere 1% decline in customer defection would yield a pretax profit increase of $41 million, customer retention took on heightened importance. Managers learned to follow a chain of links from poor customer satisfaction back to a specific problem action and then invest in correcting it.
The result was dramatic. Falling customer-satisfaction scores leveled off and then began to climb rapidly. Customer-defection rates dropped to below 10%. BFI was able to sustain profitability in the face of losses from its other business operations. Managers learned about the links from the customer-service-dependability rating to overall customer satisfaction to the customer-defection rate. They could see which specific actions would have the best payoff, and they invested in those.
BFI is one of a growing number of companies that are moving beyond a vague desire for “shareholder value” and “customer focus” and asking the questions that can get them there. How does a company identify and measure causal relationships between parts of its organization? What really drives profit and creates value? How does an operating or capital-investment decision affect profit?
That type of probing goes beyond individual departmental goals to a cross-functional view of the company’s objectives and relationships. Human-resource departments strive to improve employee satisfaction. Marketing departments focus on achieving higher levels of customer satisfaction and loyalty. Operations functions attempt to raise product quality. Those goals differ, but each department ultimately shares a larger goal: Make the company more profitable.
Companies may have success meeting departmental goals, but they often stop analyzing cause and effect once the goal is met. Later they wonder why a string of individual successes hasn’t led to an increase in corporate profit or shareholder value. They don’t see that because their analysis fails to bridge functions and actions, they can’t hope to reap the highest corporate profit.
1. M.J. Epstein, P. Kumar and R.A. Westbrook, “The Drivers of Customer and Corporate Profitability: Modeling, Measuring and Managing the Causal Relationships,” Advances in Management Accounting 9 (2000): 43–72.
2. A.J. Rucci, S.P. Kirn and R.T. Quinn, “The Employee-Customer-Profit Chain at Sears,” Harvard Business Review 76 (January–February 1998): 83–97.
3. J. Tofani, “The People Connection: Changing Stakeholder Behavior To Improve Performance at CIBC” (presentation at the 12th Annual Customer Satisfaction & Quality Conference of the American Marketing Association and American Society for Quality, San Antonio, Texas, Feb. 22, 2000).
4. R.A. Westbrook, “BFI: Customer Satisfaction Program” (Houston: Rice University, 2000).
5. Our categorization reflects an elaboration of the useful taxonomy proposed by R. Kaplan and D. Norton in “The Balanced Scorecard: Translating Strategy into Action” (Boston: Harvard Business School Press, 1996).
6. Customer perceptions were first identified as the drivers of customer satisfaction in R.A. Westbrook, “Sources of Satisfaction with Retail Outlets,” Journal of Retailing 57 (fall 1981): 68–85.
Much of what has been written about profitability modeling does not take a cross-functional approach. Author Marc Epstein’s “Customer Profitability Analysis,” published last year by the Society of Management Accountants of Canada, integrates material on activity-based costing, marketing considerations and performance drivers.
Epstein and Bill Birchard’s “Counting What Counts: Turning Corporate Accountability to Competitive Advantage,” published in 1999 by Perseus Books, presents a broad model that demonstrates the importance of identifying and measuring performance drivers and the causal relationships between them.
The balanced scorecard is another valuable approach that works well with the action-profit linkage model. Robert Kaplan and David Norton offer a complete balanced-scorecard discussion, including an extensive treatment of strategy maps, in “The Strategy-Focused Organization: How Balanced Scorecard Companies Thrive in the New Business Environment.”
Analyzing links is perhaps the hardest part of profitability modeling. In their 1997 Free Press book, “The Service Profit Chain,” James L. Heskett and colleagues provide many examples of how companies linked employee satisfaction, customer satisfaction and corporate profits. Anthony Rucci, Steven Kirn and Richard Quinn look at how to identify and measure links among employee behavior, customer satisfaction and profitability in a January–February 1998 Harvard Business Review article.
Customer satisfaction is at the heart of many profit relationships. Michael Johnson and Anders Gustafsson offer a comprehensive discussion in “Improving Customer Satisfaction, Loyalty, and Profit: An Integrated Measurement and Management System” (San Francisco: Jossey-Bass, 2000). And in a fall 1999 Marketing Management article, Timothy Keiningham and colleagues look at how one company used customer-satisfaction information to improve market share and profitability.