Customer profitability is a KPI used to determine the profitability each customer or customer group provides to the company over a specified period of time. It is calculated using the same method as determining overall profit. It is the difference between the revenues earned from the customer or customer group and the costs for that customer or customer group. While revenues by customer are usually easy to obtain, calculating the total cost incurred for those revenues are usually more complex. It is important to select methods that best represent the complete costs and fairly divide shared costs between all customers the cost is attributed.
Once obtained, the organization can better analyze their relationships with the customers. Customers with low or no profitability can be assessed, and it can be determined whether a continued relationship with the customer is beneficial to the company. In some circumstances, the customer has the potential for greater profitability in the future. They could still be in an infant stage as a customer and through development could become an excellent customer. Or, having this relationship with this customer holds a benefit outside its profitability. This customer could have a complementary relationship with another one of the company’s larger and more profitable customers and the aggregate profitability of these customers justifies the low customer profitability of the single customer. By knowing the customer profitability, additional information can be obtained and the situation with the customer can be further analyzed.
However, relationships with some customers with no or low profitability could require the relationship be severed. Many times these customers are also the customers that require more work and have more issues. After looking at the complete picture, severing ties with these customers could increase the company’s overall profitability. This should never be done lightly, all angles should be assessed, and then a proper process for terminating the relationship should be followed.
Customer profitability is also useful in identifying a company’s top customers. Having this knowledge enables the organization to focus on these customers to continue developing the relationship. The company can also analyze its success with these customers to duplicate the success with other customers.
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