Monday, July 11, 2011

Firing a customer, what holds us back?

Having recently devoured Timothy Ferriss' "The 4-Hour Work Week", I have been contemplating one of the suggestions he makes for optimising your time; firing some customers.  Comes as a bit of a jolt, doesn't it?  Most of us spend our time and energy on attracting new customers and serving existing, so deliberately getting rid of a customer seems so...crazy.

The central tenet of Ferriss' book is that you need to place a value on your time, and knowing which customers are your most profitable and create the biggest return for your time is a big part of managing your business.  In Ferriss' case, "out of more than 120 wholesale customers, a mere 5 were bringing in 95% of the revenue.  I was`spending 98% of my time chasing the remainder...". So Ferris fired 2% of his customers.

Let's take a minute then to consider how two principles of Behavioural Economics can help us understand why we hold on to unnecessary customers, and how to change things.

Sunk cost
Knowing what it takes to get a customer means we are loathe to walk away once we have them.  It's a bit like those shoes you hunted everywhere for.  Oh the joy when you brought them home! But then upon first wearing they sent stabbing pain up your shins and you haven't worn them since. So have you thrown them out? No, chances are they are still in your closet, mocking you. You cannot bring yourself to bin them because you invested so much time, effort and expense in getting them. Sunk cost applies as readily to shoes as it does customers.  If you have customers who are more pain than they are worth, fire them.

Loss aversion
We are driven to avoid loss even more than we are to seek gain.  "A bird in the hand is worth two in the bush" comes to mind.  We often put up with customers that we should not because of two common reasons;
  • we are terrified we will never replace them.  And, guess what? If you continue to invest your time and resources in unprofitable customers, you won't have those resources available to source new customers.  To reduce your loss aversion, do some number crunching. Add up all the hours and stress that your painful customers create, multiply it by your hourly rate and compare it to the revenue those customers generate for you.  Now contrast that with the hours, stress and revenue generated by your top customers. Feeling less scared of ditching the bad apples?
  • we are terrified that our competitors will grab them. We are scared that if we fire a customer, then our competitor will move in and all of a sudden, ruin our market share.  It's possible.  But remember why you wanted to rid yourself of these customers in the first place - they were not making you enough money for the effort involved.  Let your competitors wear the albatross around their neck, bogged down with customers who are overly demanding and unrelenting whilst you swoop in on the profitable targets.
And for those who work in a small market where there are not many customers, and loss of one will dramatically impact your business, here's the tip. You still need to understand your return on investment from these customers. If you do not want to go as far as firing them, look to changing the service mix (from face to face to telesales for example, or weekly to quarterly visits), and establish new rules of engagement.  Consider criteria for which you offer premium-end service, and let them know what they need to do to qualify. They then have the opportunity to either improve their behaviour and spend or be satisfied with a less-resource intensive resource model from your end.

As always, let me know if you have a business issue for which you would like a Behavioural Economics perspective by emailing Until next week, happy firing.

This article also appeared in Smartcompany magazine.
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