Customer Value and Profitability-Overview  

Customer Value and Profitability

Its finally the shareholder who rules. Customer value and profitability is fine-tuned to maximize the value out of a customer.

Customer Value and Profitability-Overview

Customer Value and Profitability is the current or potential contribution to the shareholder value by a customer or customer segment. One needs to have robust modeling and cost/revenue monitoring systems to have a reliable information. The core challenge stays in terms of designing your actions to enhance the customer value and implementing them.

Business Objective:

Maximize the customer value and profitability.

Key Customer Value and Profitability Business Questions:

  • Is my customer value and profitability in line with my expectations?
  • What is the maximum and average expectations of the customer value for a given customer profile?
  • What can I do to enhance my customer value?
  • To what extent my efforts to enhance the customer value worked?
  • How much of revenue I have to get from my customer to achieve the expected level of profitability?
  • What kind of customer profiles will be more responsive to value enhancement efforts?

What is customer value and customer profitability?

Basic and ‘simple’ Definition

Customer Value can be defined in varied ways. A true and holistic statement will be - the share-holder value generated by a customer OR customer segment.

Customer profitability is essentially the net profit margin a customer provides with his relationship

Different Views

Customer Financial value vs. embedded value

Financial value is the financial bottom-line, whereas the embedded value is the non-financial value, which adds to the ‘valuation’ of the company. For example, having high net worth customers, may not add to your financial value, but may add to your embedded value due to their potential and references they can give you.

Customer Current Value vs. long term value vs. Customer life-time value

A customer may be having a low current value (For example a fresh MBA from a premier institute), but due to his expected successful career, could be having a great lifetime value.

The difference between long-term value and life time value is the time horizon. Life time value calculates the projected value for the whole active (till she can use your product) life of the customer. Long-term value is over a certain number of years like ay 5-10 years. Long term value calculations typically have a higher weight in the analysis vs. Lifetime value, as it tends to be more realistic. Your customer value analysis typically includes all these three components to get a balanced view.

Operational customer profitability vs. net customer profitability

A customer does not have a control your marketing, research, corporate and other costs. Therefore, sometimes you measure the profitability of a customer on the basis of the factors that she has influence on. The list of expense items falling in ‘operational’ vs. ‘net’ varies and depends on the organization. For example- an institutional product organization, serving few large clients may have almost all its expenses influenced by the customer.

Who is the customer here?

The customer in this chapter is defined as either an individual customer OR a customer segment. It’s not possible and also not cost justified to identify and study every customer, for many retail OR consumer businesses (For example, an apparel chain). Therefore, for these businesses, one has to rely on the value and profitability at the level customer groups OR customer segments.

Success drivers for customer value and profitability

Customer Identification

You cannot measure a customers’ value unless you can identify the customer. Retail businesses typically have this challenge, when a customer does not leave a trail of his transactions. For example- when customers buy a set of clothes from an outlet, they don’t share their details. Companies try various methods to have customer identification like:

  • Membership Cards with benefits like loyalty points: This prompts the customer to use the membership card with his transaction enabling the company to track his value.
  • Filling-up the name of the customer, when she buys: One applies smart methods of combining the name with the location of the store etc (chances of same name customer buying from the same location are relatively lower), to identify a customer.

This is more relevant to retail business, as in institutional business you should be having the customer identification.

Customer Profile identification

With OR without your customer identification at an individual level, the profile of the customer is the key. It’s the profile of the customer, which prompts you to identify the link between the customer value and customer segment. This linkage enables you to devise new methods to improve your customer value. For example, if you feel that a given customer segment brings higher profitability, you will align your product and services offerings more towards that segment.

Single Customer View in terms of CRM

We have seen many banking institutions which still struggle to get a single customer view across their assets and liability products. Banking institutions do have methods for going their risk management. For example- They check the customer liabilities with their own business and with other institutions before giving a loan. However, many of them lack the platform to have this single customer view as an operational capability.

Single view of the customer, enables you to have a more informed segmentation. It helps you to devise customer OR segment level strategies. It also has cost avoidance. For example- people receive the telemarketing calls for the product which they already have.

Ability to measure the total customer cost (Activity Bases Costing)

Customer value and profitability have two components- Cost and Revenue. While the true picture of revenue is largely provided by having a single view on the customer, the cost measurement is a tougher task. An organization needs to agree on what it defines as the total cost of the customer. For example, one may decide not to include the corporate expenses as the cost to the customer, but includes the IT infrastructure as cost of the customer. There is no standard rule on, what expenses you have to include in your value and profitability calculation.

Cost of the customer should typically include all the costs incurred to acquire, retain, order-fulfillment and servicing the customer.

Cost and Expense Allocation to the customer

The cost-allocation business rules typically need to be simpler, as complex rules are difficult to change manage. The objective of these cost allocations, is not to achieve 100% accuracy, but to enable you to take decisions around your product, services and engagement with the given customer OR customer segment. We are not talking here of the financial performance of a line of business, where heads of businesses slug it out on who is going to take how much cost hit. The customer value and profitability analysis is more for your approach towards your customer.

Business modeling on Customer value and profitability

A robust business modeling for projecting long-term and lifetime value is the key. This business model again does not have to be too complex, as you are not looking for 100% certainty. As you develop this business model, you may like to take the market data, independent specialists and your own market research also into account.

Customer Segmentation and profiling

As you do your customer segmentation, it has to be done in a way that, every segment has a very ‘distinct’ pattern towards their value and profitability. Customer segmentation around customer value is the core, as that is the key driver of your actions around the customer segments.

Ability to identify and take actions for enhancing customer value

Once you know the customer vs. profitability distribution, it’s time to decide upon the actions you need to take on this information. This subject is dealt at a more detailed level in separate topic. The actions work at a different level:

  • Operational Level: Cross-Sell and Up-sell, spending more time with higher value customers...
  • Managerial Level: Defining special discount schemes for higher value customer...
  • Strategic Level: Defining low cost service offerings for low value customers.