What Do You Suppose Your Whale Curve is Telling You?
Before you answer that question, think about the following “outrageous” statements by MIT instructor Dr. Jonathan Byrnes (see his book Islands of Profit in a Sea of Red Ink):
- 40% of your customers are unprofitable by any measure.
- 30-40% of your customers generate all of your profits.
- Hopefully those profits cover all of the losses and leave a profit for the company.
I encountered my first whale curve in the 1980s in an NAW book written by Arthur Andersen & Co. called Activity Based Management: Lessons from the Battlefield. An entire chapter of that book was about how our distribution company, National Paper & Packaging, used customer profitability analysis to identify and manage customers that made and lost money for us. As CEO and as a “recovering accountant”, I was very focused on where and how we made (and didn’t make) profits. A whale curve illustrates how profitable, unprofitable and breakeven customers affect your bottom line.
For example, the whale curve example below plots cumulative customer profits from a $50 million distributor with 600 active accounts. The cumulative profits are on the vertical Y axis and the customers are on the X axis, starting with the most profitable customer on the left and the least profitable (biggest money-losing) customer on the far right.
The curve shows that the distributor makes about $2,600,000 on the first 100 customers, breaks even on about 400 customers, and loses over $1,200,000 on about 100 accounts.
Does this mean that this distributor could make $2.6 million instead of less than $1.4 million if it fired most of its customers? No, it does not.
Distributors need people, assets and infrastructure to maintain the critical mass to be in business. But, almost any company would indeed make much more money if it managed its customer profitability.
Let’s focus on three types of customers a distributor sees on their whale curve. Which category do your customers fall into?
High Profit Customers
Here is a ‘blinding glimpse of the obvious’: a distributor can generate really large profits only from a very large customer.
- The main root causes of customer profitability are gross margin dollars per transaction and cost to serve.
- Gross margin dollars per order are the product of gross margin % and order size.
- Gross margin % can be managed through sales mix and strategic pricing. The sales force is critical in making this happen.
- Order size can be managed through account penetration and consultative selling. Again, the sales force is the key to success in building order size.
- The distributor needs to protect the winning accounts at all costs. This is where relationship building, cross-functional team selling and building distinctive value need to happen.
When it comes to developing and keeping large, profitable customers, the distributor with the best sales force and management team wins.
Low Profit & Small Loss Customers
Doing business with the most customers results in a small profit or a small loss for the distributor.
- Distributors have thousands of accounts that generate a small profit, break even or generate a small loss. In the aggregate, the gains from these customers and the losses often offset each other.
- Having these customers enables the distributor to build and maintain the infrastructure (staff, facilities and systems) needed to do business with large, high profit accounts.
- There are too many of these customers to manage them individually. The distributor needs sales policies and business processes (such as strategic pricing and the right compensation incentives) to empower the sales and operations teams to optimize profits from these accounts.
- Building order size and margins, and improving the sales mix, can dramatically improve profit results from these customers.
- Medium-sized accounts and even many small customers can generate profits if the variables are managed well.
Customers break even on an overall basis and can be made more profitable by managing sales policies and business processes.
Large Customers Whose Business Results in Large Losses for the Distributor
This also is obvious, but only a large customer can generate big losses for a distributor.
- Management needs to identify which money-losing large customers are truly strategic. Losses from strategic accounts are an investment in the business and must be tracked to make sure there is a return on that investment somewhere else in the business.
- Sharing profit data with suppliers can help enlist their financial support for serving money-losing large customers whose business is important to the suppliers.
- Sales reps need assistance from management when trying to turn around large money-losing accounts. The distributor needs to prove to customers that increasing order size and concentrating more business with the distributor can benefit both parties.
- Some large loss accounts will not work with their distributors; if they are not strategic the distributor may be better off without the business. Rather than “firing” the customer, the distributor must change the arrangement (margins, minimum orders, special services, credit, custom inventories) and let the customer decide.
Customers on the ‘whale’s tail’ represent an opportunity to radically improve distributor profitability through customer involvement, supplier involvement, and a resolve to adjust the size of the infrastructure if some of the money-losing large accounts inevitably decide to take their business to the competition.
In conclusion, distributors need to concentrate on making more money from the business they have and be prepared to let the competition suffer with some of the chronic large losers that consume distributor resources and burn up profits. The distributor is then able to better-serve their winners and deploy their hunters to find more potential winners.
What does your Whale Curve tell you about your profitability? Are there ways to improve and shorten the “tail”? Evergreen Consulting offers a no-obligation conversation about this very topic. Give us a call at 216-360-4600 or use our Contact Us form, and let’s take a look at how your profitability can be improved.