Many companies fail to capture lucrative incremental logistics service revenues for fear of alienating their customers. Rather than offering high-end expedited services for a fee, they would rather give them away in the spirit of customer satisfaction and the remote chance of increasing product sales. In the long run this often turns out to be problematic for them and their customers.

While I've observed this problem during the course of my career, it literally hit home last holiday season. We were having family over for a holiday dinner a couple of days after Christmas, which you might recall occurred on a Monday. On the Thursday evening before, our home heating system broke down and we called in the dealer we bought it from. The repairman came and diagnosed the problem as a defective motor, so a simple replacement was needed. When he went back to his stockroom he discovered they did not have one in stock. I asked him if he could order it from the manufacturer on Friday since the weekend and Christmas were fast approaching (and getting help would become more difficult). He said we had to wait until Tuesday since the manufacturer had given its employees Friday off to celebrate a four-day holiday weekend. Good for them, obviously not for me.

I then asked whether the company operated a hotline for emergency parts, at least during the winter months when someone's water pipes could freeze. He said no, but that they periodically provided emergency parts as a favor to a dealer. Panicked, I rhetorically asked, “Why not?” and followed it with some things that can't be printed.

Luckily, this story had a happy ending. The dealer scurried around looking for the part and was able to eventually convince workers at the manufacturer's local distribution center to open it up during the weekend. However, I think the manufacturer left significant money on the table in a couple of ways. First, in revenue, as I was willing to pay a lot extra to get that motor, as would anyone in my position. Second, in costs, since the dealer incurred extra costs and (I'm hoping) the distribution center workers got overtime pay for working on a pre-holiday weekend.

The moral of this story for manufacturers is that there is a subset of customers that are willing to pay extra for expedited or emergency services, so they should be offering those services for a price, not on an ad-hoc complimentary basis.

Most durable product companies I have worked with learned this valuable lesson during their formative years. When they first got into the business they focused on selling products through dealers that serviced end-use consumers. Dealers bought service parts from the manufacturer. This led to dealers maintaining huge stocks of service parts, because many were notorious for their neophyte inventory management practices.

When a dealer needed emergency parts the manufacturer would ship them on an expedited basis for no additional cost. Over time, some dealers got spoiled by this free service and it fostered bad inventory management practices. These dealers drastically reduced their inventories and increased the portion of parts they bought on an emergency basis — since there was little incentive to stock parts if they could get them quickly at no additional cost. This created at least three problems for the manufacturers.

First, their transportation costs skyrocketed, yet they were reluctant to recoup some of the costs by charging more for expedited service for fear of alienating these dealers. Second, the dealers that practiced sound inventory management, and therefore didn't need the free service, were unhappy because they were effectively subsidizing the dealers that were taking advantage of it. Third, and more importantly, the end-use consumers were getting worse service, since these dealers had indiscriminately reduced their stocks to levels crucially below those needed to provide good service. This made the dealers look bad. Thus, over time offering free expedited service backfired on both the manufacturers and their dealers. (This should have been expected, since over time service revenues were necessary to cover the extra costs incurred.)

Eventually the manufacturers had to bite the bullet and formally create, or “productize,” a tiered parts delivery service leveraging at least two types of orders. The first type was “stock orders” meant to replenish dealer stocks. These orders could be placed by dealers on a weekly basis, usually on a specific day of the week. Manufacturers shipped these via multi-day delivery services. To handle emergencies or critical stock outs that might occur between stock orders, dealers could place a second type of order, called an “emergency order.” These orders could be placed on any day. They were shipped using overnight delivery services, charging the dealers extra — for example, a common charge was 5 percent of the order value.

In the long run this improved dealers' service parts management, aligned costs by having the dealers that used expedited services pay for them, and improved service levels.

Just as these durable product manufacturers were doing during their formative years, I would suspect that many product companies currently offer complimentary expedited delivery services to win the hearts of major customers. However, what they fail to realize is that this might be rewarding bad behavior from customers that indiscriminately use them. In the long run this backfires, because these customers are effectively being subsidized by others.

Paradoxically, just as I was willing to pay extra for my motor, most customers are willing to pay extra for expedited service. Too often, however, they were never asked to pay by the manufacturer's sales rep, because he or she was trying to please them.

Summarizing, there is a moral to the holiday service story and history lesson from the service parts business. Expedited services should be “productized,” so that customers pay for them and companies can recoup the extra costs incurred. This also generates incremental revenues for a company — and what could be wrong with that?