Customer Profitability Management
What is a customer worth to a company, and how can this information be leveraged?
In the book Managing Customers as Investments, the EX Group's president Sunil Gupta and Donald R. Lehmann present a simple but rigorous model that estimates customer lifetime value, and the value of a firm based on its customers.
Customer profitability is first used to target which customers to invest in. As a simple illustration, the diagram below shows four customer segments. Each requires a different strategy.
- Star Customers receive high value from a firmís products and services and provide high value in margins, loyalty, and retention. Companies need to identify these customers and expand share of wallet with the right experience.
- The Lost Cause does not get much value from a firmís products and services. At best, they may provide marginal value to the firm by allowing for economies of scale. If not, companies should consider reallocating resources from this group.
- Vulnerable Customers provide high value to firm but do not get a lot of value from the firmís services. There is a danger of defection unless the firm invests in a better customer experience.
- Free Riders get superior value from a firmís products and services but provide little value because of their large size or intensity of competition. The firm needs to reduce service or raise prices for them. This risks defection but will enhance their value to the firm.
In addition to targeting marketing investments, customer profitability management can also be used to
- Develop strategies for customer acquisition, customer retention, and customer expansion
- Understand the return on their marketing investment (ROI) in revenue and in share priceóbridging the interests of marketing and finance departments
- Manage high-level valuation decisions such as mergers and acquisitions
The full power of customer profitability as a strategic tool, however, lies in its ability to provide a measure of the drivers of customer value. It can tell you whether growth opportunities lie in acquiring new customers, increasing retention rates, or expanding margins per customer.