The Importance of Analyzing Customer Profitability

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The Importance of Analyzing Customer Profitability

BADM 603
July 30, 2007

Every for-profit business has one main goal: to maximize profits by selling as much of its products or services to as many customers as possible. It seems logical to think that the more customers that a business has, the more profitable the company will be. However, business managers should also be aware that some customers are more profitable to the company than others. Managers should analyze their customers to determine those that are the most profitable, and most important to keep satisfied, as well as those customers that may not be contributing to the profit of the business. Once these customers are determined, a manager can develop strategies to
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Usually the top ten to twenty percent of customers provide eighty to ninety percent of profits.
How do Companies Use Customer Profitability Analysis?
Before beginning the process, managers need a clear statement of their profitability goals. They also need to be certain to educate the sales force and other related personnel, on why the analysis is taking place and how it will be used. Customer profitability analysis allows businesses to effectively rank their customers based on their contribution to profit margin. This ranking shows which customers are positive contributors and which customers are negative contributors to the company’s profit. Managers need to be aware that not all customers contribute positively to the company’s bottom line. Merriman outlines three ‘truths’ to keep in mind when reviewing the results of the profitability analysis:
“1. The only way an account can be at the top of the report is to have huge annual margin dollars and relatively few transactions. These are strong winners no matter what cost-shifting and activity-cost assumptions are tried.
2. The only way an account can be at the bottom of a CPR [Consumer Profitability Ranking] report is to have huge transactional activity and relatively low margin dollar contribution….
3. If anyone wants to use incremental cost assumptions, the rest of the overhead costs assigned to the accounts in dispute must be reassigned to all other accounts. This makes the super losers even

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