Cumulative Customer Profitability - The 20/300 Rule
In his book Islands of Profit in a Sea of Red Ink, Jonathan Byrnes states that by any measure of a business (dimension), 40% of a company is unprofitable. We have also seen this in the 300+ clients that we have analyzed, many times even more skewed. In fact, for some companies, the most profitable customers (Top 20%) generate 300% of a company’s net profits, the middle 60% is basically break even and the bottom 20% loses 200% of net profits. And the numbers are more skewed the more detailed the analysis; transaction analysis would be more skewed than customer analysis.
If this rule exists in many if not most companies, why don’t companies jump on the opportunity to gain visibility into their business and drive incredible profit improvement? I believe the answer is not so simple, because if it was, companies would clearly be scrambling to do this. (Instead, we see so many companies rushing to implement budgeting solutions because that is a broken process in many companies.) Profit improvement is not a process in most companies. It is something that is done piecemeal at best, it is something that is hired out (consultants) and it is something that over the last 30 years has not been done effectively (meaning that an understood process with an owner was established to make it an iterative and sustainable process in the company) In fact, in most companies that we do business with, their former technology was Excel, with many models of their business and little process connecting the numbers with profit improvement action.
Gross margin analysis and use of standard costs needs to change for many companies if they are to support the new realities of their businesses: diverse customer segments, exploding product diversity, complex supply chains, etc. How is your company responding to the changing environment? Are they looking to truly change how they measure their performance so that they can support the new realities? Who (what organization) is leading the charge at your company? Why not you?