Can you really have too many customers?

The surprising answer is yes, you probably have too many customers.

By Brad Dawson, Managing Director of LTV Dynamics, Catharpin, Va. May 16, 2008

Engineering firms, on average, are only achieving 6% of their revenue potential, leaving the remaining 94% for the competition. This statement should shock you. How could any credible business be willing to leave so much revenue behind? The answer resides in the diversity and composition of the customer base.

For most businesses, customers are defined as those entities that pay their bills. They can come in all shapes and sizes and are a result of aggressive business development programs, professional referrals, and long-standing relationships. It is difficult to say “no” to a project opportunity, regardless of its size.

Unfortunately, every time you take on a “less than desirable” project, you tie up labor resources that could be better used to grow larger, more sustainable customers.

As much as 80% of your active customer base may be hampering your ability to grow. Most businesses will find that more than 80% of their revenues are coming from only 20% of their customer base. The conclusion is simple: you either have too many customers or you are ineffective at maximizing the revenue potential from a larger percentage of your customer base. Resolution of either situation provides a ready avenue for low cost growth.

Measure your potential

There are two metrics that quickly allow you to measure the effectiveness of your customer base: optimal revenue potential and the revenue per customer metric.

Optimal revenue potential calculates the annual revenue of an engineering firm assuming that every active customer “acts” like the firm’s largest customer. The revenue per customer metric applies an average customer value to the entire customer base. Both metrics provide a good baseline for measuring a firm’s potential upside value.

The following example illustrates the way to measure both metrics:

An $11 million engineering firm has 200 customers with the largest customer spending more than $900,000 each year. Beyond the issues associated with a single customer comprising such a large percentage of the firm’s revenue, optimal revenue potential is calculated by multiplying the annual revenue of the largest customer ($900,000) by the total number of customers (200). The resultant value is $180 million, or the amount the firm would realize if every customer “acted” like the largest customer. When the actual annual revenue of $11 million is compared with the revenue potential of $180 million, it is concluded that this firm is only achieving 6.1% of its revenue potential.

Of greater consequence is the realization that the average revenue per customer amount is only $55,000 (total realized revenue divided by number of customers). In simpler terms, if the firm’s largest customer is generating revenues of approximately $900,000 a year, there must be a large contingent of customers that are generating revenues far below $10,000.

Establish a proactive offerings continuum

A large under-performing customer base is the result of one-off selling–only selling a single project solution to a customer. Firms with this problem are often “order-takers” only responding to explicit customer needs, a condition also referred to as reactive selling. The bad news is that if the customer never asks for a specific solution, no other revenue is ever generated from this customer. The objective is to establish a continuum of offerings that logically moves a customer down a predefined path.

For many engineering firms, the assessment, implementation, and maintenance (AIM) model provides a way to craft a proactive offerings continuum. (See “ The AIM Model Defined ”)sort of maintenance offering (i.e., continuous review/optimization of the engineered solution). Immediately, customer relationships increase in duration and, at the same time, increased revenues are assured.

The AIM model also provides a protective stance that precludes your competition from entering your customer domain. If your firm is providing a full cycle of services, there is no need for your customer to entertain outside vendors. Your position as vendor of record remains intact.

Assess your customer base

Whether you rely on the revenue value associated with your largest customer or the value that could be generated from a full-cycle AIM approach, you have identified an ideal revenue per customer amount–the amount of revenue you should expect from every customer relationship. With this amount in mind, assess the ability of each active customer to generate a similar level of revenue. What you will find is that a high percentage of your customers are unable to “pay” for the majority of your services. You must decide if the expected value of their revenue contribution remains worthwhile to your firm.

Your assessment should also identify those customers that have an ability to pay for the majority of your services but, for whatever reason, have not been approached for follow-on work. Quickly, establish an account management strategy that rapidly moves to put these customers on the offerings continuum. These captured customers merely need to be moved proactively to generate higher levels of revenues—a simple, low cost way to grow your firm.

Finally, use the ideal revenue per customer amount as a qualification tool when assessing potential new customers. The cost of customer acquisition is relatively the same for a small or large customer. It seems prudent to invest your limited business development monies in the acquisition of customers that can “buy” the majority of your products and services.

Unless you are a start-up enterprise, you probably have too many customers. The key is to define your customers as those entities that can buy the majority of your offerings. Servicing under-performing customers wastes your resources and limits your ability to proactively acquire the “right” customers for your firm. Surprisingly, having fewer customers that are able to generate far higher levels of revenue ensures your firm of astonishing corporate growth.

–Dawson is the managing director of LTV Dynamics and has 27 years of management consulting experience. He is a frequent lecturer to international entrepreneurial businesses and has clients in U.S., Russia, China, Mongolia, and Latvia.