Measure & Improve Product and Customer Profitability
In a competitive environment, knowing product and customer profitability underpins decisions to deliver gains in profitability and long term sustainable growth. We uncover true net margins and expose the reasons for gross margin erosion. These analyses and the actions to reverse adverse trends are known as Activity Based Management. Many difficult questions begin to be answered: • Are all our products profitable? • If not then why not? • Where should we focus to turn things round? • Which is our most profitable customer account? • What can we afford to negotiate away? • Which type of distributor is important to us? • Are some of our customers targets for competitors? Anecdotally everyone knows who the best and worst customers are. But what of the other 99%? In a manufacturing business products generally have some net margin when they are at the factory gates but the costs of servicing customers quickly erodes what margin is left and in ways that are invisible in the accounts. A wholesale or retail business will have accurate gross margin information but is unlikely to have accurate data concerning the costs of the customer relationship. Cost to serve is a key measure that such businesses need to have. The activity based costing model will determine the true profitability of each customer. The figures can be a surprise and are often a revelation. Losing any high net margin customers to competitors could spell disaster. For zero net margin customers you are basically working hard just to stand still. There will always be a number of customers where the net margin is negative. In some cases seriously so. But what actions could you take to make them more profitable? Are your processes the root cause of the problem? Have you given away high service levels and not recovered the costs from additional revenue? Are these customers causing you costs you would simply prefer to do without? Ideally you take actions so that zero and negative net margin customers are made profitable. For those that cannot be turned round, simply lose them to competitors who will think they have won a good deal (based on revenue and gross margin). The spare capacity from removing big loss making customers can now be filled with profitable ones. The costing model will tell you the characteristics that make a relationship profitable so no resources are wasted on chasing unprofitable business.