Ever wonder where you are making money or (gulp) losing money? Any business can benefit from understanding it’s product and customer profitability.
If you are a:
Contractor – are you making money on residential or commercial contracts?
Vet or doctor – are diagnostic services or treatment services more lucrative?
Winery – is the 750ml bottle of house wine or the Reserve 1.5L magnum more profitable
There is huge value to understanding your product and/or customer profitability – it can help set your strategic direction as well as develop new products, marketing campaigns, loyalty programs, incentive plans, and cost reduction initiatives.
Imagine boosting by your lowest margin products by 10% – what a difference that would make to your bottom line!
Determine Product/Customer Profitability
Identifying the revenue for each product or customer is fairly straightforward. If your chart of accounts have been set up thoughtfully, then your accounting system will book revenue to the appropriate product category. Profitability by customer can probably be found in either your accounting or CRM software.
However, gaining a clear understanding of the costs can be more challenging. If your books are set up with precise and accurate Cost of Goods Sold, that will get you part of the way there.
But what about the time and effort spent selling the product, servicing the customer, managing the relationship, billing and collecting? What about supplies, inventory costs, and the use of capital equipment? Correctly allotting these expenses will take further analysis or allocation of costs.
After all costs have been assigned to a product or customer, then you will know your true product and customer profitability and where you are (or aren’t) making money.
Don’t be surprised if 20% of your products or customers make up 80% of your profits – that is not unusual. What is more important is what you do with this information.
The Most Profitable Products/Customers
Consider these strategies for your most profitable products and customers:
Cater to your best customers! They are after all putting food on your table. Do whatever it takes to build loyalty and deepen the relationship. Consider incentives to spread the word about your business.
Intensify marketing efforts. Promote the heck out of your best products and sell more.
Find the commonalities. Figure out the similarities of your most profitable products and customers. Are your most profitable products “green”? Are your best customers single moms? Whatever it is, find more products or customers that have these same attributes and promote them.
The Less Profitable Products/Customers
What about the other 80% of your business? How do you handle those products and customers where you are making less – or maybe even losing – money? Here are some possibilities:
Fire unprofitable customers! We know this may feel really good, but first make sure they don’t have other intrinsic value. Is this person a champion for your business or a good referral source? Do you like working with them? If not, go ahead and make the split. However, first consider finding them an alternative provider. It is always important to keep the goodwill.
Transform unprofitable customers into profitable customers: Determine why you are losing money on these customers and do what it takes to bridge the profitability gap: cross-sell, up-sell, increase pricing, shorten the selling cycle, or reduce the expense to service the customer.
Discontinue product lines. Some product lines you can do without and others you just have to have. Consider a coffee shop that loses 5¢ on every muffin they sell. Keep the muffin – customers want it with their (very profitable) coffee.
Get costs out of the system. If there is an unprofitable product you want to continue selling, figure out ways to get costs out of the system.This might entail sourcing from a less expensive supplier or more fully utilizing your capital equipment.