Twenty to thirty percent. That is the typical percentage of customer and product portfolios that are losing money.
What’s your percentage, and why do you tolerate this? Better yet, what should you do about it?
It may be that you lack the visibility to understand the true profitability of your products and customers. Activity Based Costing is a well-known management practice, but it still takes effort, and you may lack the capacity to develop descriptive analytics to understand the true situation.
The bigger problem is that even when faced with reliable information demonstrating unprofitable products, customers and segments, you don’t act to correct the situation or prevent it from happening in the future. Fear of unknown outcomes has become your biggest roadblock to action. One CFO, when asked about a major product that had -16% operating margins, responded “That product keeps the lights on.” It is just one of many reasons we hear why executives do not address the problem.
The typical reasons for inaction – concerns about fixed cost shifting if the product is removed, risk of customer reactions to portfolio changes or price increases, uncertainty about the impact of making changes, etc. – come down to two common root causes:
- Failure to leverage predictive analytics to answer the unknowns in pricing and product/customer mix
- Lack of management routines, capabilities and clear authority to make product, customer, and portfolio decisions
We’ll talk about the latter in a future blog, but let’s focus on predictive analytics and tactical decisions “on the margin.”
Consider your sales executive that is trying the close a new, large deal. He or she knows business is down and the plant has capacity, but how should that affect his/her pricing decisions? What is the true incremental cost for the incremental volume he/she is selling? In making a “simple” pricing decision, your sales executive has a host of considerations and constraints, such as:
- Is the pricing consistent with the overall company’s value proposition?
- What implications does this transaction have on the brand in future deals?
- What is the “win probability” at a given price?
- What impacts will there be across other products?
- What is the churn of our customer base and probability of new sales that could be predictive for filling that capacity at higher prices?
- Are there product substitutes with higher margins to consider, and can we predict customer acceptance of these alternatives?
These “unknowns” leaves you with bad choices – 1) using human intuition to make these choices (with risks of making mistakes), or 2) put static thresholds and policies that leaves money on the table.
However, there is a third option. Increases in availability of Big Data, coupled with advances in analytical capabilities, companies like yours now can intelligently price their products in a more dynamic way across the portfolio. If your business has any one of the following, you may want to explore marginal pricing solutions:
- Large breadth of products and/or customers
- Varied prices, particularly where pricing authority is decentralized
- Medium to large fixed costs
- Industry overcapacity
Leveraging predictive and prescriptive analytics opens the door to fresh avenues of growth in pricing without increasing risk, and provides the foundation for advanced product and customer portfolio management.