Don’t you just love profitable years? The business blows through its objectives, reaching a banner year for sales, profits, and leaving investors impressed. Your products and services are in demand, and the upcoming year starts to take on the same empowered tint. You start to feel like your biggest challenge is keeping everyone together while the rocket ship takes off.
Banner years are fantastic, but there’s always room for improvement. What if I told you your earnings before interest, taxes, depreciation, and amortization (EBITDA) could be 10-20 points higher than it is today within 12 months? That improvement is sans snake oil, BS, and hidden costs, and you can analyze and implement these three secrets to turbocharge your EBITDA.
Profitability Takes Time, Not Money
The reason your eyebrow is raised is the reason so few companies implement these ‘secrets.’ Implementation requires an investment of time, effort, and consistency. So if you’re interested in trading a little time for 10-20 EBITDA points over the next year, here’s a look at three ways you can increase your profitability without investing in any scheme:
1. Honestly assess your current customer base.
Directions, strategies, products, and markets all change. Yet your customer base remains fairly constant. On a surface level, a stable customer base is a hallmark of a good business and a sign that customers value what you do. But are you really serving the customers you set out to serve or want to continue serving?
If you were starting over today, it’s likely you’d keep some, but not all of your customers. Over time, your company’s target customer has evolved. Today’s non-target customer may have been yesterday’s target customer, but are they still? For example, a banking client once asked this question and realized that 30 percent of their depositors weren’t target customers! The bank wanted to move to more high net worth clients and commercial clients, but a full third of their customer base was still made up of low balance, low transaction accounts.
Furthermore, the customers you currently have may not be profitable. Dig deep into the bowels of your accounting and budgeting systems. Analyze acquisition costs, support and maintenance costs, and disposition costs of your current client base. Develop a customer lifecycle cost for your target and non-target customers to see if the data supports your customer base. A company that offers aftermarket support for OEM print and copy equipment performed this analysis and found that a number of target customers were unprofitable at a 45 percent gross margin.
When you combine these two exercises, you’ll likely make three important discoveries: first, that 10-30 percent of your customers aren’t today’s target customers. Second, that these customers provide revenue but that revenue is unprofitable.
How you handle these revelations will determine how much of your EBITDA you can salvage. Slacker companies will stop selling to unprofitable, non-target customers to spend more time pursuing target customers. Better companies find ways to make profitable non-target customers targets. But world-class companies change their service, product, or business model so that targeted unprofitable customers become profitable.
2. Add money by subtracting priorities.
You may have heard this one before: it goes by the name of “Addition Via Subtraction”, “The 80/20 Rule,” and even “The 64/4 Rule, but the lesson remains the same: focus on what matters most.
(Too hackneyed? Read on.)
Warren Buffet met with an employee to have a “Where do you want to be in five years?” conversation. At the end of the meeting, he asked the employee list 25 goals in order of importance to compare at the next meeting.
When the meeting takes place, Buffet and the employee discuss the goals and agree on the top five priorities for the year. But when Buffet asks what the employee is going to do with the other 20 goals, the employee says he’ll get those done, too, because they were important goals. Buffet interrupts the employee to say that at all costs, he must not work on achieving any of those goals. Those 20 goals are now his “Not to Do List,” so that he can focus on his top five high-priority, ROI goals.
We all know that focus is a highly desirable trait in business. But it’s not just focus on the task at hand. It’s focus on a specific number of goals to the exclusion of everything else.
Instead of taking on new idea after new idea (or worse, hosting a breakout session and go right back to business as usual when it’s over), consider how much more effective your organization would be if it implemented a “Not to Do” list. Focus your team members and business goals on five priorities and defund projects and initiatives that don’t align with those goals. You’ll end up with 5-10 EBITDA points.
3. Carefully evaluate what you spend on procurement.
It’s a boring subject, and by even bringing it up, I risk encouraging you to roll your eyes or click off the page (or perhaps both), but hear me out. Why does one division order pencils from Staples and another from a local supply shop? And let’s not stop with pencils. What about chotskies or swag? And even bigger ticket items like computers and monitors?
Procurement professionals maintain dozens of different “indirect” categories. These categories represent things that the company buys that don’t go into products: office space, utilities, insurances, and yes pencils, pens, paper, and more. And anytime your company uses more than one supplier for supplies, you’re spending money you might not have to spend. Combining forces by combining orders can help you consolidate your spending and negotiating more reasonable rates on common purchases. A consultant organization I know focused on leveraging their spend in these categories, allowing them to add another 2-3 points to the EBITDA for several consecutive years.
Here’s where I do the math for you: Not selling to unprofitable customers who aren’t your target customers adds at least 5 EBITDA points per year. Focusing on what matters and defunding what doesn’t adds 3-5 points. Procurement adds another 2 points. All totaled, that’s ten more EBITDA points at no cost to you.
None of these changes are hard, and none of these changes are expensive. But implementing them could help a business struggling at 5-10 percent margins get 10-15 percent back within a year. That’s an incredible return for a small investment in time and focus.
This article was syndicated from Business 2 Community: 3 Secrets for Increasing Profitability Without Spending a Penny
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