Every company is eager to grow and to drive profits, but all too often business managers fail to recognize when those two goals may be mutually exclusive. In some instances, simply adding customers to one’s rolls can be harmful to your bottom line. This is why profitability analysis at the customer, product and market sector level is both essential to a sustainable future and the only true way to ensure your company is as profitable as it can be.
For instance, profitability takes a hit if we fail to identify the true costs of acquiring a new customer. I speak with many mid-sized software companies that are super eager to sign contracts with big-name enterprises. I get the attraction — nothing is more validating than adding a household name to one’s customer ranks. The bragging rights are real. But here’s where we need to add caution: some will expend more engineering, consulting and implementation resources than they ever hope to re-coop (much less turn a profit). But all too often, revenue from enterprise-class customers is assumed to be profit, when it may not be. Without an individual customer profitability analysis, such companies will continue to lose money without really understanding why.
Profit loss can also occur when a customer has excessive demands or leverages many internal resources. Employee churn is expensive, both in terms of employee loss and the many costs of recruiting, hiring and training replacements. A study by the Society for Human Resource Management calculates that it costs an average of $4,129 to hire an employee and takes nearly a month and a half to fill a position. That’s before training even begins. If an employee quits because of the excessive demands of a customer, it’s time to do a customer profitability analysis, and to add recruitment costs to the calculation.
And it’s not just individual customers worth watching, some segments, markets or channels may be just too costly to sell into and support. For instance, companies on a quest for additional rounds of funding are often eager to expand the number of logos on the rolls, and do so by targeting the SMB market, as these companies often have a shortened sales cycle. Again, this seems like a sound strategy, but without regularly analyzing the cost of acquiring and supporting (marketing, sales calls, sign-up, implementation) those customers over the duration of their contracts, profitability can suffer. Although they can say yes to a product in short order, they can also pull the plug just as quickly.
Granular Profitability Analysis
Profitability analysis is often conducted on the company level which, as we can see, won’t allow business managers to identify when they’re throwing good money after bad. The only way to ensure your company remains focused on increasing profits is to take a more granular view of profitability analysis. Specifically, finance teams should look at the key metrics that indicate customer profitability, including:
• Average cost per acquired customer
• Average cost of a terminated customer
• Average marketing costs per customer
• Average profit or loss per customer
Once you establish these benchmarks for your customer base, you will be able to identify when a customer or market segment is decidedly not right for your company.
I realize that this level of profitability analysis is difficult to accomplish in a spreadsheet. One must typically begin by downloading GL data to a tab, then downloading, say CRM data to another tab, and then marrying it up manually. Anytime anyone needs to enter data by hand, mistakes will occur. But there are tools available on the market that can streamline this process and allow you to make strategic decisions as to where to focus your resources.
Read more: CEOs Are Focusing On Connecting Outcomes And Profits