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|Complete Business Wisdom
|For Your Business Garden Grow, Dont Forget to Prune
Harvy Simkovits, CMC Published in Boston Business Journal 9/3/99
Every knowledgeable gardener knows that you need to prune your grounds bushes and trees if you want them to become healthy and lush. Similarly, astute business owners know that they need to prune unprofitable customers if they want their business to grow and thrive.
For example, one company examined the bottom 20% of its customer base, which represented about 3% of its revenue and gross margin. When they calculated the margins they were gaining from that business, against what it cost them to service those customers, they quickly realized that they were losing money by carrying those customers. Unfortunately, this company did not have the courage to say goodbye to that business because their line of credit from their bank was tied to their accounts receivable, and therefore to the incremental revenue from that unprofitable set of customers. Unlike gardeners who know that cutting dead or dying branches from a tree will make the whole tree healthier, this company sadly decided to maintain customers who were clearly draining energy and resources from other more profitable parts of their business.
Categorize Your Customers
One simple way to determine which customers you need to reassess is to categorize them by industry or type and list them from highest to lowest profitability (not revenue) to your business. One financial services firm did this and realized that the source of greatest profitability for their company was people who owned their own business. This was followed by higher net worth persons, either retired or still working. These types of clients needed the broader and more custom array of financial products and services that the firm offered. At the bottom of their list was lower net worth people who needed rudimentary tax or estate services. As a result, this company decided they wanted to focus their business on the more fulfilling and more profitable business endeavors. They consequently decided to refer the lower-end business to a colleague in their industry who was best equipped to handle this type of business. By doing so, this company not only lifted a sizable burden from its limited capacity, but also created a strategic partnership with a colleague where there would be good opportunity for cross-referral.
This financial service company also took another significant step. They rated each new prospective client using a number of criteria, including potential profitability, which would tell them whether they would be willing to take on that new client in their business. This allowed them to focus their businesss products and services on the clients who would fit best with both what their firm could offer and how they liked to work, and be the most lucrative for them.
Strategize Your Positioning
When a manufacturing company categorized their customers, they discovered, to no surprise, that the no-frills commodity end of their business was the least profitable. Their ultimate desire was to guide their business to customers who wanted value-added services for which they would pay additional money (e.g., custom product design, warehousing, purchasing and packaging of product accessories, etc.). However, they just could not say "no" to their commodity-business customers, some of whom had been loyal customers since the day the company was founded. To resolve this dilemma the company decided to use product price and delivery as their tools for pruning unwanted business. If they could not easily fit the commodity business into their production schedule then they raised their price somewhat, or extended delivery times. Rather than say "no", this company took low-end business only if the customer would accept these price and delivery adjustments.
As a rule of thumb, its good to examine the bottom 10-15% of your businesss customers, in terms of profitability, and then create a consistent and doable strategy for dealing with all those customers. One service firm gracefully contacted every customer in that firms bottom profitability tier. They told each of them where their service firm was heading and how that customer could fit into that possible future, if they so desired. Then they gave each customer a choice to stay with the firm, by moving to higher end products and services, or to take their business to a complementing firm that would better handle their lower-end business. As a result, a number of unprofitable customers left on good terms, and others chose to upgrade their products and services and stay with the firm. This ended up as a "win-win" approach for all.
You can effectively grow your business "garden" when you know where to prune the bushes and trees that represent your customers. By cutting or clipping here and there, and being deliberate about removing any unprofitable customers, or ones that are draining your companys resources, you have a greater chance of surviving and even thriving in todays ever complex and more demanding marketplace.