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Wasting too much time chasing the wrong kind of customer?

Is there such a thing as unwanted revenue? Uncontrolled chasing of one dimensional revenue targets risks rising costs and falling profits. The solution, says Michael Smith, lies in concentrating your resources where they will make the most difference – and that process starts with proper customer profitability analysis.

By Michael Smith

10% more customers rarely equates to 10% more revenue. Rarer still does it relate to 10% more profit. Why? Because all customers are different. The best customers stay loyal and pay your prices. The worst buy at a discount, are fickle, have a vague interest. Other customers could be described as schizophrenic; they will pay the price but then don’t stay or might negotiate a lower price but are loyal. In business, we rarely have the chance to choose our customers, being compelled to go along with legacy procedures because there is no time to stand still. Here are some examples:

1. The advertiser. Typically the rate card will contain specific prices for specific space offerings. Yet, who amongst us has not refused to pay "rate card" and instead waited for the desperate sales person to call us later with a considerably improved offer, a fraction of the original price? Sales teams are often targeted on revenue rather than revenue and profit – result: price chaos with no-one believing in the value offered.

2. The electronic professional publisher. The publisher develops a "global platform" to standardise costs. Whereas the publisher may have some truly global customers, its obsession with the platform means that smaller provincial customers are alienated by a high price and partially-relevant product. Going for a standardised offering ignores the fact that different customers have different needs, creating unnecessary friction and damaging loyalty.

3. The book publisher. Many book publishers rely on the book trade to sell their product. Irrespective of the value placed on the product by the end user (the reader), the pricing and profitability of the product is geared to what the book trade needs to be able to clear stock quickly and "sell through". In an unstable environment such as non-subscription items, it is dangerous to have pricing set by people who actually don’t use the value offered by the product.

4. The magazine publisher. Magazines serve a transient audience, targeting a group of like-minded individuals for an indeterminate life. Sooner or later readers move away, either through a change of job or worse, terminal ennui. Targeting a cyclical audience (Wedding Dress World) which is forever mobile and rarely loyal creates an unstable environment for profit; this is particularly the case in the consumer world. True, magazine owners collect customer data to inform their rate cards and "strategy days", yet in the end these strategies merely deliver a "relaunch", some ill-conceived addition of the web as "added value" etc etc. Rarely do they end up trying to leverage their customer base.

Understanding your customers

Understanding the customer and leveraging their value relies on having a team of strategically minded people whose job it is to analyse data and to be credible and authoritative in the business. The test facing strategy teams in publishing is to manage a set of key variables so that customers can be managed to the mutual benefit of both the publisher and the customer. These variables are:

* Customer loyalty
* Costs of servicing the customer
* Intelligent cross-selling and up-selling
* Positioning against competitor incursion

As we have seen from the examples above, loyal customers should form the basis of any successful business. Loyal customers are the product of:

* Efficient service delivery – product, pricing, customer service
* Identifying target customer groups
* Consultative customer management
* Staff motivation and team ethos
* Brand credibility

There is a need, therefore, for the publisher to understand those customers who are not – or who may not be - profitable:

* Occasional purchasers (erratic purchasing which cannot be predicted)
* Price buyers (ie. always asking for a discount or have to be won via offers, premia etc.)
* Customers with illogical buying procedures (eg. centralised account buying, irrespective of local conditions)

Loyalty is key. Commentators have ascribed profit increases of up to 100% (yes, 100%) simply by increasing customer retention by 5%. McKinsey research states that (all things being equal) a 1% increase in prices can deliver an 11% increase in profits. This latter statistic is the "quick fix of profitability". The former statistic is the ideal fix: growing loyal, paying and dedicated customers and, crucially, understanding the costs of serving them. So, how do we understand profit drivers and manage them to deliver corporate success without damaging customer loyalty?

First, let us reflect on factors affecting costs of serving customers. These are:

* Acquisition costs (direct selling, telesales, internet marketing, direct marketing, trade discount)
* Maintenance costs (customer management visits, product bundling, product distribution and warehousing costs)
* Logical and consistent price matrices
* Credit / cash control policy management

The key to our understanding of profitability is what groups such as McKinsey and the Professional Pricing Society term the "pocket price". This is the amount of money which makes its way to the publisher’s profits after all the factors listed above are taken into account.

Next, we must seek to identify groups of products and then identify their profitability patterns. The table below, reporting on a fictional pet magazine publisher, shows how this is done:

Child-Pet Mags Ltd
-My TortoiseMy HamsterMy CockroachTotal
Subs/sales revenue£70,000£45,000£22,000£137,000
Ads revenue£50,000£57,000£50,000£157,000
Variable costs£80,000£90,000£77,000£247,000
Fixed costs:My TortoiseMy HamsterMy CockroachTotal
DM & Advertising£20,000£20,000£10,000£50,000
Order taking£4,000£3,500£1,500£9,000
Warehouse & Distribution£2,000£1,800£800£4,600
Total fixed costs:£31,000£27,300£13,800£72,100
Net Profit£9,000(£15,300)(£18,800)(£25,100)

Here, the publisher, Child-Pet Mags Ltd, is losing money. A typical business reaction will be to focus on costs to leverage profit (reducing marketing is often seen as a first port of call for instance). But let’s look deeper.

Looking at the above examples, we can see that My Cockroach has low copy sales but high advertising sales. My Tortoise and My Hamster sell similar ad volumes yet My Tortoise has a larger copy sales income than My Hamster. Direct Marketing and Advertising costs are roughly proportionate to copy sales income for My Hamster and My Cockroach, yet My Tortoise has the same marketing budget as My Hamster but has copy sales income in excess of three times the marketing budget. We can already see that data hides reasons.

Conducting a Customer Profitability Analysis

The key to successful customer profitability analysis is to focus on major products or product groups (eg. a group of magazines targeting a sector). It is also important to concentrate on like-for-like customer groups (eg. Newsstand / retailers, subscribers with similar demographics etc). An homogeneous analysis in this way permits like-for-like comparisons across customer groups so you can see which customers are profitable and which are not.

The structure below illustrates how Child-Pet Mags Ltd might conduct such an analysis in its portfolio:

* Identify all retailers / newsstand outlets.
* Identify demographically defined customer groups who subscribe direct.
* For subscribers, identify acquisition costs, acquisition source, ROI per group, first year conversion rates, subsequent renewal rates, typical subscription length (time), cross sales.
* For each group, accurate sales revenues, costs and profits must be provided by the accounts team in such a way that the information is credible to all who view it. Undertake different analysis for subscriber sales and for advertising sales.
* For each group, define separately the costs and the revenues, remembering to differentiate between fixed and variable costs (NB again, your accountant or FD will need to arrive at meaningful attributions, particularly on fixed costs per title).

The results thrown up by this exercise will reveal a variety of approaches available to the publisher to maximise customer profitability. These might include:

* Tailoring direct marketing to more profitable sectors
* Defining cross-selling opportunities
* Reducing discounts to certain groups
* Changing customer contact rates, focusing contact on more profitable groups
* Charging for items previously given free (usually applies to smaller unprofitable groups)
* Varying delivery costs / Implementing extra surcharges on small orders
* Rewarding behavioural traits (early renewal, credit card payments)
* Tailoring advertising sales to groups which pay rate card price
* Instituting training for advertising sales executives
* Lowering trade discounts / incentivising retailers
* Increase prices but offer reductions to suit pre-defined loyalty conditions
* Rewarding sales teams to deliver on revenue and profit targets combined


Any large company will inevitably lose track of key performance metrics as it seeks improved top-line growth; often revenue is seen as the Holy Grail at the expense of understanding how the revenue can be maximised. Any company can reduce costs to drive profits, but the intelligent publisher will analyse customer groups to determine which groups are the most profitable. It can then seek to reward profit-driving customers and identify ways either to leverage better profits from relatively unprofitable customers or simply not do business with them. Key is an effective understanding of the data available to a business in understanding profit drivers, combined with the willingness to manage sales and marketing teams to focus on profitability and revenue together. Ultimately, to be truly successful, any company needs to provide end-user value. This must not be identified as offering cheap goods at cheap prices; instead it is about offering practical values at a price which realistically reflects the value offered.