Are Many of Your Customers Unprofitable?

In the new Summer 2011 issue of MIT Sloan Management Review, marketing scholars V. Kumar and Denish Shah report some intriguing findings from a study they conducted linking certain types of marketing techniques -- those aimed at increasing customer lifetime value (CLV)  -- to stock price increases. 

As part of their research, Kumar and Shah analyzed two companies' customer databases -- companies they refer to as "TechInc" and "FashInc" in their article.  (You can read more details about the authors' research and findings in their article "Can Marketing Lift Stock Prices?")

What Kumar and Shah found about customer profitability should give many executives pause -- even if their companies aren't publicly traded:

"In both TechInc and FashInc, we found an extremely skewed distribution of customer profitability — which was consistent with our expectations.... The average CLV [customer lifetime value] of one of TechInc’s High CLV customers was about 25 times as much as that of one of the company’s Medium to Low CLV customers. Interestingly, at both companies, the top 20% of customers contributed more than 90% of the company’s profits, because each company also had a sizable proportion of customers on which it lost money.

The skewed customer profitability distribution meant the companies should apply different marketing strategies to customers in the High CLV segment than to those in Medium to Low or Negative CLV segments."

If, at both of the companies the researchers studied, one-fifth of customers accounted for more than 90% of the company's profits, what does that imply about the remaining four-fifths of the companies' customers?

And is your company any different? Could a small fraction of customers be the source of most of your company's profits? Conversely, do you know which of your customers are unprofitable for your organization -- and how many of them there are?

3 Comments On: Are Many of Your Customers Unprofitable?

  • almcfarland | June 28, 2011

    First step is to determine which customers are/are not profitable. Hints here: http://bit.ly/cwQDWH

    Second is to determine how to make them profitable, either by raising rates or decreasing support/marketing costs.

    Revenue is important to companies… but shouldn’t be bought! Profitable customers and profitable revenue is what’s needed to grow a business.

  • Katherine Trillian | July 12, 2011

    It seems Pareto’s principle, also knows as the 80/20 rule, is in action once again. According to this rule, 20% of your customers will bring you 80% of your profits. And you will probably find that a different 20% of your customers will cause you 80% of your headaches.

  • Michael mmontenaro@collegegirlcleaningservice.com | March 8, 2013

    I own a small business, and learned early on (oftentimes the hard way) not all potential customers are a good fit for your business. Not only can they be unprofitable (or less than optimally profitable) , but as the previous poster stated these same customers also tend to use more of a “headache” then they are worth, make unreasonable demands, and take away time better devoted to other aspects of your business. Sometimes weeding out these customers can be just as important as acquiring new ones.

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