“Know Your Customer.” Deeply ingrained in the minds of those in the financial sector, this widely held business principle is a nod to best practices centered on various analyses and regulatory compliance procedures designed to mitigate risk introduced by customers into the business model. Customer segmentation models, also commonly referred to as “customer stratification” produce customer rankings that allow you to truly know your customers–not only from the perspective of what they need, but also what you need from them.
The Risks of Not Understanding a Customer’s “Real” Sales Contribution
For those in the distribution or manufacturing sectors, the notion of customer risk may not register concern beyond that of ensuring timely payment from customers. The reality, however, is that customer-associated risk can manifest itself in any number of ways in the running of daily business, thereby, making “Know Your Customer” just as germane for the distributor and the manufacturer as it is for the financier.
The pressure to win business is fierce. For many distributors and manufacturers, just being able to hold onto existing market share—much less stimulating growth—poses enough of a challenge. Ever-increasing customer expectations for greater product access, best pricing and expanded services have motivated sellers to become creative and proactive in implementing dynamic programs to retain market share and win new business, such as:
- Mitigating supply chain risk and reducing lead times via reshoring or near-shoring sourcing strategies
- Onboarding or expanding after-sales support, warranty and repair services
- Expanding the role e-commerce plays in the selling model
- Expanding integration into the customer’s procurement and inventory management
As innovative as such programs assuredly are, and despite the merits they undoubtedly possess, they may have a profound impact on changing a company’s customer sales and support model through the blind assumption of significant costs and added complexities. As such, contrary to the intended positive change hoped for in pursuing these endeavors, they may introduce adverse risk into the business model that impair or restrict margin and EBITDA earnings and growth in return on assets and financial liquidity.
How Customer Segmentation Models Help
The more ambitious and proactive a company is in embracing new strategies to win business, the greater the imperative is for that company to possess the capability to assess the strength and alignment of its various customer relationships with its revenue and earnings goals and the cost structures in place to maintain those relationships. The merit of the sales strategies deployed, and/or the cultural practices engrained over time in the selling process, must be assessed against these customer relationships within the context of their cause and effect on:
- Growing revenues
- Reducing sales, support and service cost in real terms and as a percentage of sales
- Growing return on assets
- Driving greater efficiency in sales asset allocation
This is where customer segmentation models make a difference. These models allow you to segment your customer base into ranking matrices that give you the insight you need. For example, integral in making this assessment is the understanding that strategies and practices do not affect all customers the same way or drive the same financial results or the desired behavior equally across all customer groups. It is crucial to know the attributes that differentiate customers from one another. Without this insight, defining and deploying effective, results-driven sales strategies, and assessing their impact, becomes incredibly challenging.
Lack of understanding of how actual financial results are derived from the intersection of strategy / practice and type of customer is likely fundamental in explaining the results of studies on sales to profits relationships performed by Johathan Byrnes, senior lecturer at MIT and founder of Profit Isle. His analytical experience has shown that:
- 20% of sales activity generates 150% of profit
- 30% of sales activity erodes half of profit
- 50% of sales activity generates minimal profit, but consumes over 50% of company resources
These results portend that a serious disconnect exists for the C-Suite between strategies deployed and understanding how these strategies actually succeed or fail in driving financial results across the spectrum of the company’s various types of customers. Customer segmentation models provide a framework for analysis that helps bridge this gap by illuminating the corollary between the cross section of strategy and customer in driving growth and earnings.
Take the risk out of your customer relationships and download our resource guide, “Growing Profitably Using Customer Stratification”. You’ll not only gain a deep understanding of the fundamental concepts around customer segmentation–you’ll learn the practical application of this methodology into your own practices.
