In February 2002, managers at Journey's End, Inc., were debating the relative profitability of the company's three distribution channels: catalog sales, corporate sales, and retail sales.
They asked Marie Ablondi, a financial analyst on the corporate staff, to conduct a channel profitability analysis. The results of Marie's analysis could have significant effects on the company's distribution strategy.
Journey's End sells active clothing wear. The company contracts out the manufacturing of all products to outside suppliers, located mostly in Asia and in the Dominican Republic. Journey's End employees maintain a large catalog mailing list. Catalog buyers, mostly individuals, place generally small quantity orders by phone or over the Internet. All of the corporate sales orders, which are generally large-quantity special orders of logo apparel, are brought in through Journey's End's field sales force. About three-quarters of the corporate orders require the salespeople, and usually some design experts and managers, to engage in time-consuming order specification and/or price negotiation work. The field sales force also brings in most of the retail orders. The salespeople call on the retail outlets' buyers. The buyers generally purchase medium quantities of goods at wholesale prices. Some of the retailers require special product labeling and packaging.
Journey's End managers had been monitoring the performances of their businesses and distribution channels at the gross margin level. At this level, all three distribution channels looked profitable, as follows:

Some managers, though, had come to believe that the gross margin-level measures might be presenting misleading performance indications. These managers noted that the company's selling, general, and administrative (SG&A) expenses were "below" the gross margin line. Their intuition was that if the SG&A costs were allocated to distribution channels, a quite different performance picture might result. Their concern led to Marie being assigned to do a study.
Marie's first task was to identify the relevant SG&A expenses. She found that the direct sales force was paid a 10 percent commission on the sales revenue that they brought in. In addition to the commissions, the material amounts of Journey's End's corporate selling, general, and administrative expenses for the fiscal year 2002 were as follows:

Marie's second task was to identify the major activities that were causing the SG&A expenses to be incurred. She focused her attention on five activities that she thought she could relate directly to one or more of the distribution channels. She assigned all other activities to an "Other" category. The following chart shows Marie's estimate of the proportion of each of the SG&A expense line-items that were caused by each of the activities that she identified:

Marie knew that she then had to assign the costs of each of the activities to the distribution channels. In order to be able to do so, she gathered the following information:

Required:
a. Calculate the profitability of each of the three distribution channels in terms of both total dollars and return on sales.
b. What are the implications of these numbers?

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(5000) Catalog Corporate Retail Total Sales Cost of sales Gross margin 10,000 $20,000 14,000 $60,000 35,500 530,000 15,000 15,000 3,500 S 6,000$24,500 6,500 Marketing and sales support Design Information systems General administration (5000) 5 6,000 900 2,000 3,000 11,900 Total Activity Take Phone or Take SpecialProcess Customer Internet Field Negotiation Customer SG&A Line-Item Mailing Order Order Field Order Invoice Other Total Marketing and 10% 10% 5096 90 sales support 30% 096 096 100% Design Information 0 10 100 10 80 100 10 80 100 systems 10 General administration 0 10 Channel Activity Catalog Corporate Retail Total Customer mailings Number of phone orders Number of field orders Number of field orders requiring 98,000 1000 30 400 1,000 100,000 60 3,090 800 3,000 400 300 430 100 460 400 3,890 special negotiation Total number of orders/Process 3,000 customer invoice