Customer satisfaction | How to measure which clients add to your bottom line and handle ones that don't
It’s easy to calculate the overall profitability of your company, but do you know how profitable each client is? The trick is knowing which clients are your cash cows and which clients drain time, energy and money from your business. Are your biggest customers really your best customers?
Say your company makes widgets, which normally sell for $1,000. Your best client orders 100 widgets a year, making them a $100,000 customer. Since this is your highest-revenue customer, you make sure they receive priority treatment:
- You invite the co-owners and their families to visit once a year to wine and dine them ($4,000)
- Since they’ve been dissatisfied with your customer service lately, you’ve devoted 25% of your top employee’s time to their account ($10,000)
- They asked for a 5% price reduction last year, which you readily agreed to in order to keep their business. After all, they are your best customer.
The end result: You’ve decreased your price and added $14,000 to the cost of maintaining this client. Assuming your cost of goods sold is $600 per widget, this decreased revenue and increased cost makes the net profitability of this client equivalent to customers who order just 50 widgets a year. Your “biggest and best” client is now only as valuable as a “normal” customer.
What contributes to the profitability of a client?
Any variance from your standard processes and procedures can result in an increased service cost for a client. Common reasons are:
- One-off procedures that require manual intervention
- Excessive hand-holding, either in an attempt to keep the client, deal with frequent issues/complaints or because that treatment has become the client’s norm
- Delayed receipt of payments
How do you measure the profitability of a client?
You can view the overall profitability of a client in two ways:
- Cold, hard cash
- The mental and emotional cost of doing business with them
The cold, hard cash method is easy to calculate using the QuickBooks reports function, which allows you to track profitability by individual customer or customer job. Use the information in these reports to evaluate current and proposed pricing or other special client requests.
I worked with a company that was trying to decide whether to give a valuable client the discount they requested. The argument became quite heated until someone looked at the profitability report and realized that the client’s existing price structure resulted in a net loss. Needless to say, that ended the discussion and started a new conversation.
Some customers take up more mental and emotional space than others. These are the clients who keep you up at night and cause endless workplace discussion or decreased employee morale. Although it’s difficult to put a financial price tag on this emotional stress, you can use this in conjunction with the profitability figure to determine the client’s overall worth to the company. For example, you may decide the emotional stress is fine for a client that contributes $50,000 to the overall profitability of your company, but not fine for the client that contributes only $3,000.
What to do with unprofitable clients?
Once you know who your unprofitable clients are, decide whether you want them to be a part of your company’s future. As a business owner, you need to decide if your most precious resources (time and money) are worth being spent on unprofitable customers. You may decide you need these customers for strategic reasons, name recognition or company goodwill. If not, carefully remove them from your client roster.
Suggestions on how to gently fire unprofitable customers:
- For customers that consistently lag behind in payments: Let them know you’re tightening up your accounts receivable standards and that they will need to pay more quickly. They will generally look for a competitor that will happily let their payments ride for a longer time period.
- For customers that require a lot of service time and effort: Have a frank discussion about your normal standards and processes. Inform them that you will need to increase the product price to cover these additional company expenses. If they value the services you provide, the end result will be a profitability increase driven by client pricing. If they decide to go elsewhere, the end result will be a profitability increase driven by expense reduction.
All customers are not created equal — some take up more time, effort and money than they are worth. Removing these customers from your client list will actually increase the profitability of your business and give you the resources you need to improve your bottom line.
Alison Hinson, owner of Alison Hinson MBA, LLC, can be reached at alison@alisonhinsonMBA.com. Read more Profit Motives here.
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