Say you’re a supplier with a warehouse full of goods, but you have more orders than you can handle. You know you’re going to end up with a few unhappy clients, and you’re not sure who to disappoint. It may seem sensible to fill orders for the most profitable customers first, especially if they’re the most likely to complain about unfilled orders. But catering only to them could mean damaging relationships with other customers. So who gets the goods?
Chicago Booth Professor Dan Adelman and Adam Mersereau of the University of North Carolina have developed a model that may be able to help.
The crux of the issue is that a supplier can’t keep everyone happy all the time, especially when there’s more demand than supply. If you’re a supplier bombarded with purchase orders, you have to decide how much of each customer’s request you intend to fill. The objective, of course, is to maximize profits, but not at the expense of losing future business from clients.
This could be seen as a behavioral challenge, but Adelman and Mersereau approach it using quantitative analysis. Their model takes into account demand, profitability, and also customers’ memories.
A supplier may tend to provide better service to customers who bring in higher profit margins, but Adelman and Mersereau’s model shows there are good reasons to pay attention to low-margin customers as well. The researchers compare whether it’s better for a supplier to maintain goodwill with all customers or just its most profitable buyers, and they find that spreading the goodwill around leads to larger average profits. That’s because by catering only to high-margin clients, a supplier can mislead those clients into thinking they’ll always receive that high level of service. If that service level isn’t sustainable, the clients will ultimately end up disappointed. A better strategy: keep expectations within a manageable range for all customers.
The model, by essentially codifying the old adage, “the squeaky wheel gets the grease,” also shows there are good reasons to pay attention to customers with shorter memories, too. Customers with shorter memories—those who complain the most about service—are most likely to switch to another supplier or drastically reduce their purchase orders if they feel neglected. Customers with longer memories will be more tolerant of disruptions in service and won’t mind as much if overtaxed suppliers tend to give them short shrift.
Ultimately, suppliers would do well to cultivate a large, diverse customer base. That way, suppliers won’t have to worry as much about chasing high-margin customers, and clients with short memories will be less likely to disrupt the suppliers’ operations.
Moreover, the research shows that having a diverse group of customers can provide a cushion during difficult times. When a few customers experience a bad year, suppliers can count on their other clients to keep ordering. That helps a supplier mitigate risk and keep the number of total orders coming in more stable from year to year. Cultivating good relations with all customers, while expending more effort to get along with the more sensitive ones, helps smooth the flow of orders in the long run.
Dan Adelman and Adam Mersereau, "Dynamic Capacity Allocation to Customers Who Remember Past Service," Management Science, March 2013.