How To Increase Profits By Changing Your Customer Focus
Customers are the key to every business’s profitability. By analyzing past purchasing you can maximize customer profitability.
Regardless of your business model, B2B or B2C, your objective is to sell your products or services. Without any customers, you run out of money and go out of business.
For most businesses, customers fall into 4 distinct groups:
- Your best customers. They’re your most loyal supporters. They love your products and will stay with you even if there’s an occasional lapse in service.
- Your next tier customers. They buy from your company on a regular basis but don’t have the purchase frequency or level of spend as your top customers. That said they have the potential to become better customers with the proper care and nurturing.
- Your great silent majority. This is the bulk of your customers buy from you on occasion but they’re not particularly loyal. They can be swayed with the right offer, either yours or your competitors’.
- Your non-buyers. This is a mix of people who are former customers that left due to a product or service problem, purchased for someone else so they have no interest in your firm, or have never bought for you.
Once you understand how your customer base breaks down across these 4 categories you can maximize customer profitability by targeting your marketing.
The general marketing rule of thumb is the best 20% of customers generate 80% of revenue.
In my experience, actual results tend to be even more skewed.
The most extreme case I’ve seen was a business unit targeted at wealthy individuals. In one geographic region, less than 5 % of the customers accounted for over 95% of revenue. Despite strong sales, the market was at risk because a change in market conditions or a few key customer defections would have a significant impact on revenues.
How to analyze your customer base
Here are 3 steps to give you a better understanding of the health of your customer base.
1. Stratify your customer base by purchasing level. To determine the influence of your top-, average-, and lowest-performing customers, rank customers by total sales over the past year.
- Divide the list of customers into deciles (tenths). Create a cumulative total sales column, starting with the highest-revenue customer.
- Develop a cumulative total sales percentage. Divide the cumulative total sales by total sales for the year. You can now easily identify which tier customers generated what percentage of total sales.
2. Calculate the top tier’s turnover rate. Over time, companies tend to maintain the same percentage of top customers. Yet the specific customers who make up this top tier vary to some extent from year to year. To ascertain your turnover rate:
- Rank these customers by sales for 2 consecutive years.
- Compare the names of the top customers.
- Determine the number of customers who were in the top tier in both years.
- Divide by the total number of top-tier customers from the first year. This is your retention rate.
- Subtract it from one to get your turnover rate.
Turnover rate = 1 – [number of top-tier customers in years 1 and 2/number of top-tier customers in year 1]
3. Determine whether customers are profitable. Short term, customer revenue must cover total variable costs (i.e., product, fulfillment, and bad debt) and hopefully contribute to marketing and overhead expenses. Don’t spend lots of money romancing these customers until they cover their fully loaded costs.
Positive contribution customer = [customer revenue – total variable costs] > 0
A customer is truly profitable when the revenue he generates exceeds his fully loaded costs (i.e., total variable costs, marketing, and overhead associated with servicing this customer). These customers are worth continuing to market to at the current level.
Truly profitable customer = [customer revenue – total variable costs – applicable marketing costs – allocated overhead] > 0
As this analysis shows, all customers aren’t created equal. To maximize customer profitability, you must target your marketing to those customer segments with the greatest profit potential.
4 Tactics to maximize customer profitability
1. Enhance your relationship with core supporters. At a minimum, acknowledge the importance of your best customers, who comprise up to 20% of your customer base. In addition to the sales they generate, they s tend to refer other good customers.
- Use special touches to delight these customers and humanize your relationship with them. The goal is to make them feel special.
- Create special by-invitation-only offers for your very best customers. This enhances the cachet of being a preferred customer. Sometimes an incremental fee may be charged.
2. Improve your marketing to swing customers. Your objective is to increase your relationship with these customers. Many of these second-tier customers, the next 10 to 20% of your base, have the potential to become your best customers due to increased spending or your enhancing the relationship.
- Develop programs to make them feel special without sizably shrinking your margins. At a minimum, use different messaging or service.
- Send an email just to thank these customers.
- Consider a differentiated offering.
3. Maintain your promotion to the great silent majority. These customers constitute about half or more of your housefile. They tend to continue to purchase from your firm for the same reasons they did before, barring any change in either your offering or their circumstances.
- Continue to promote these customers based on their past buying behavior. Where appropriate give them special offers.
4. Manage your bottom-tier customers proactively. The bottom 10 to 20% of your customer base probably hasn’t recently purchased. To market them effectively, gather feedback to understand why. Did they only purchase a gift? Did they have a bad experience with your company? Did they only sign up for an incentive.
- Develop a plan to market to or drop these customers by segment. For customers who are still profitable, implement or extend a customer win-back program. Based on customer feedback, test different offers to restart purchasing.
- Test win-back offers with incentives since purchases may take time to return to previous levels. I’ve successfully tested this type of offer. The benefit: you have their contact information and they know your brand, so acquisition costs tend to be less than for a totally new customer. Further, each customer win-back creates a second customer lifetime value.
- Drop low-end customers who are unprofitable. They aren’t worth the additional marketing dollars. Depending on your business, you may need to notify customers if you intend to stop servicing them.
Your goal is to ensure that you aren’t leaving any profitable customers behind.
To this end, tailor your marketing message by segment to meet customers’ needs and potential. Remember that not all customers are created equal.
Understanding the dynamics of your customer base is critical to increasing your firm’s profitability one customer at a time.
Continue to test new ways to maximize customer profitability while maintaining business momentum.
What marketing tactics do you use to ensure you’re getting the most profit from each customer?
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