Who is your best customer?
A seemingly simple question, but do you know the answer? Many businesses subscribe to the “revenue is king” philosophy, and deem their biggest customer their best.
The reality, however, is that profit is often king . While revenue is an easy-to-track metric for size and growth, sustainable profits are required to keep your business afloat. Your best customer is the one that generates the most profit dollars, not the most revenue dollars. And if your business is overloading the top revenue account with tons of resources, you may be killing profits.
A Real Example
For businesses that sell products, profitability is easy to calculate.
For services businesses, profitability can be quite difficult. How do you allocate time spent?
One way is to use Activity-Based Costing (ABC) to assign costs to each customer account and compare them to revenue. By assigning overall labor to the account, you can get a better understanding of how different customers compare on profitability.
Let’s look at a real (anonymized) example:
Green bars represent the revenue for a given customer. Blue dots are the “efficiency” level based on our Activity Based Costing (ABC). Effectively, these blue marks are an estimate of the account profitability.
The results of this analysis are pretty stunning. While “Chevron” (disguised) is far bigger in terms of revenue, they are eating up all of your resources. By comparison, “Sunoco” generates strong revenue at a much more profitable level. With this view, it is clear that “Sunoco” is the better customer.
Running this analysis is important for a number of reasons.
- A business needs to understand which customers are the true sacred cows. Hint: it’s probably “Sunoco”, not “Chevron”.
- Something is wrong with “Chevron”. Action on this account needs to be seriously considered – perhaps by a hard talk with client, or by raising their pricing.
- There are gems in the lower-revenue accounts which could be exploited with more effort.
This analysis can help your business understand how to better allocate your most prescious resource — your team’s time — by moving them away from the unprofitable accounts and focusing them on growing the revenue of profitable accounts.
How To Determine Client Profitability
Activity Based Costing allocates costs to client accounts in order to calculate client profitability. It’s great in theory but often complex to put into practice. We’ve got an upcoming blog post on tips for implementing it. Stay tuned!