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Womens Executive Network Newsletter

It costs more than you think to serve a customer.

Fiona Flynn, Business Development Director, Staff Balance

Senior executives who focused on significant cost reduction in 2009 are now taking a strategic approach to growing their business in 2010. A first step is to understand how much it really costs to serve a customer.

When it comes to improving profitability, the cost-to-serve ratio is a key metric to help you deliver outstanding products and services that generate sufficient income to cover costs. An inherent problem in the current environment is that companies are not managing to cover costs because they don’t have a full and forensic understanding of all the costs involved. Traditional accounting systems are not geared to provide this level of detail and the problem is that in most large businesses, there are multiple channels, complicated product sets, legacy data systems and even a widely dispersed organisation. Simulation modelling helps to pull the complex and diverse data together to give you customer profitability information that makes sense and that goes beyond the current level of accounting data available. How do you assess the profitability of each customer that you deal with? It is important to think beyond the gross margin level and take into account the fully loaded cost of serving each customer.

Professor Robert Kaplan of the Harvard Business School researched thousands of companies and he discovered that:

  • The most profitable 20% of customers deliver between 150% and 300% of profits
  • The middle 70% of customers are at breakeven level
  • The least profitable 10% of customers lose the company between 50% and 200% of total profits

The implication of Kaplan’s research findings is that all too often, some of your largest customers turn out to be the most unprofitable. This may be for a number of reasons including the high levels of discount that applies, customisation of products or services, high support costs, and even large amounts of pre and post sales support all lead to higher cost to serve. One of the solutions widely available in the US and recently introduced into Ireland is profitability analysis and simulation modelling which gives you information on an ongoing basis to enable you to measure efficiency improvements and negotiate the deals that ensure your customers move into the profitability zone. Once you have the data in front of you, there are three components that you can use to improve customer profitability;

  • Process – improving how you deliver to your customers
  • Pricing – appropriate price levels to ensure profitability
  • Relationship – developing more transparent relationships with customers.

Simulation modelling gives you the tools to analyse and deeply understand which of your customers are profitable and which are unprofitable. By factoring in the real costs associated with each customer, you can make adjustments, both operational and financial, that will favourably impact on your bottom line. Fiona is the Business Development Director at Staff Balance, an organisation that builds business simulation models that can help you improve profitability, optimise your business resources and minimise your costs.