All customers are important, period. There are large customers, small customers, emerging customers, “mature” customers, etc…but the question of interest in this post is…who are your most profitable customers? Understanding customer profitability is critical.

Ahhh…now is the time to open a bottle of wine (or whatever you fancy) and think through this one with me…what is profitability?

Is it a.) the fixed costs absorbed by your large, high volume but relatively low variable margin customers or b.) the high variable margin customer with lots of unique products that require frequent changeovers or c.) the customer that doesn’t really call you much, pays some form of maintenance on a regular basis and relies on some old piece of technology you sell to them? The answer is that all of these could be considered profitable or unprofitable depending on who you ask…

The large customer that gives you the gift of volume but not much variable margin DOES absorb fixed costs…but do you really need those fixed costs and all that infrastructure? Is that really the most profitable way to run your business?

The high variable margin business that makes you jump through hoops with respect to production might actually be money losing for you, especially if there is any amount of inventory going bad as a function of them changing products up on you often or end-of-life issues.

That low maintenance customer that just pays you…well, they may be the reason you have some expensive development and QA folks on staff and when you take those into account, you might actually be paying them to hang around.

The point is: You Must Take All Costs Into Account! These are not just the obvious ones…but they are the fully loaded costs of serving customers…this means the collections complexity of AR, the risk within your inventory (MOQs, unique SKUs, Aged product etc.) and the fixed infrastructure and supply chain costs associated with serving these customers.

Also realize that there are two answers out there…1.) the answer you can actually implement and live with and 2.) the theoretical one you might get from someone who spends a few hours with your data in spreadsheets. The right answer is probably somewhere in the middle.

You might need to significantly re-price a customers that is driving excess operational complexity for you – for example, if a customer requires small quantities, frequent changes in tooling or is asking you to develop custom product for them without paying more for it you must re-price the business to a level that makes sense for you. Assuming you are a “medium cost” producer and you offer the quality and delivery capabilities they are looking for, having the confidence to know what your worth is key. In my experience, most stick around and take the higher price, though you will lose some customers and when you do it’s ok – these were the ones driving complexity and cost, and potentially keeping you from deepening relationships with other customers or attracting new ones!

For a large customer, there are a number of ways you can potentially increase customer profitability of the business you do with them. First, analyze the production process or procurement process. Can you value-engineer products to reduce cost? If you’re making 100,000 per year of something, every $1/unit matters. Can you consolidate parts within the product to increase manufacturing efficiency? Can you ask them to hold inventory, commit to a longer term volume to smooth out your production forecast, etc. There are nearly countless ways to approach the “large customer” challenge in profitability. Remember: Profit = Revenue – Expenses, so should be developing a set of initiatives in both areas.

Finally, Remember that the sum of all your customer profitability = your company profitability. That means that the sum of all your expenses to support your customers = your company’s expenses. You wouldn’t have any expenses if you didn’t have any customers, so learn how to allocate those to the customers that they belong to – it will help you make better short term and long term decisions.