Ready Ink and Paper Ltd. sells and distributes office supplies for printers and photocopy machines; its overall margin on sales is 10%. Ready Ink and Paper has customers of two kinds: low and high volume. Low-volume customers on average generate sales for $5,000 per year and the average tenure is four years. High-volume customers on average generate sales for $18,000. Their average tenure is seven years but they require an initial investment of $8,000 (comprised mostly of legal fees paid to lawyers to review the long-term contract and upgrades in the software to allow customers to place purchase orders online). Assume a 12% required rate of return.
REQUIRED
1. Calculate operating income per customer in each year.
2. Ready Ink and Paper Ltd. estimates the value of each kind of customer by calculating the customer’s projected NPV over the total expected time of the contract. Use the operating incomes calculated above to compute the value of each kind of customer.
3. Indicate which type of customer is more profitable for Ready Ink and Paper Ltd.