Customer Profitability RevisitedCustomer Profitability Revisited

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Summary

As the economy gathers steam, the “top of mind” issues for executives will transition from survival issues (e.g., cutting expenses, cash conservation) to growth issues (e.g., increasing market share, acquiring competitors). For this reason, Ventana Research expects customer related initiatives to become more important over the next year.

Increasing customer profitability was the rationale for many CRM initiatives in the 1990s boom. Improving profitability is a key objective of performance management efforts, through a combination of improving efficiency (thereby lowering costs) and increasing revenues (usually by enhancing the effectiveness of process execution). We assert that applying a customer-profitability performance-management discipline should be an ongoing focus of senior executives, particularly the CFO. Information technology will be a critical component in any customer profitability effort, but executives must also manage strategic, organizational, and analytical issues. The payoff from these efforts can be a significant boost to the bottom line.

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Efforts to improve customer profitability are not new. Good managers have always looked for ways to achieve the highest margins possible. However, companies rarely approach improving customer profitability in a systematic or strategic fashion, and individual efforts to improve returns in one’s own bailiwick may be counterproductive for the enterprise (e.g., extending warranties to boost sales without considering support costs).

In the 1990s, vendors (and analysts) promoted both business intelligence (BI) and customer relationship management (CRM) software as ways to improve customer profitability. BI advocates believed that combining information held in disparate operational and financial systems would provide answers to critical questions. CRM proponents thought having a centralized view of the customer would provide the knowledge and insight required to achieve performance breakthroughs. Some argued that using the data in these systems would allow companies to intelligently segment customers and prospects and tailor offerings. Yet few of these efforts produced their desired results. Having the right information is important to the success of any attempt to improve customer profitability, but analyzing this information properly in the company’s strategic context and organizing the initiative appropriately are critical to making customer profitability a winning business approach.

Companies must develop a focused, consistent approach to managing customer profitability that incorporates four essential elements:

Strategy: What is the corporation’s strategy and which customer profitability options are best suited to this strategy? A company pursuing a “fashion leader” strategy will likely take a very different approach than one going the “low cost” route.

Analytics: Understanding economic profits from individual customers or customer classes can be the single biggest challenge facing a company’s customer profitability program. Developing frameworks and specific recommendations for this analysis must be a priority. In some cases the most appropriate metric may be a simple contribution margin on a single transaction; others may require a more involved set of data that examines various costs over a customer lifecycle. Information Technology: What data are necessary to assess profitability? Are they available on a timely basis? How should data be collected and stored? While many companies have most of the information needed to manage customer profitability, they still face obstacles including not having all the information necessary, the information not being accessible to the right people, and a problematic IT architecture. At the same time, it is important to avoid overcomplicating data collection to the point that it becomes a roadblock (i.e., where “better” is the enemy of “good enough”). Those driving the initiative must have basic tools for understanding IT requirements and assessing alternatives.

Implementation: Every company will face different issues when it applies its customer profitability strategy. As a rule, narrowly focused customer profitability projects are far easier to put into place than those that are broad based. However, these must be designed and executed from a corporate perspective, otherwise they either can fail to enhance overall performance (because they fail to consider all costs) or will not confer strategic or long-term competitive benefits (because they are inconsistent with the company’s strategy).

Assessment

Ventana Research believes effective management of customer profitability will be an important differentiator of performance over the next three years. We advise companies to address customer profitability at a corporate level instead of taking a silo approach. In our judgment, CFOs should take the lead in shaping, organizing, and coordinating these efforts, both in order to give initiatives a senior level focus and because the resources required for analysis and implementation can be found in the finance organization. Information technology will be one of several key components to the success of customer profitability initiatives, enabling corporations to gain important insights into what drives margins and allowing them to measure how well the initiatives are paying off.