What is a whale curve analysis?
A whale curve analysis is a profit ranking report for a company. The profit shown is accumulated, from 0% to 100%, and naturally forms the shape of a whale’s back (hence a whale curve). The idea is that when companies rank their customers (or products) from most to least profitable, they generally find that ~20% of the most profitable customers generate 180% of a company’s profits, while the 20% least profitable customers/products lose 80% of a company’s net profits. Thus, amounting to the total net profit observed by the company at 100%.
Perhaps it goes without saying, but every company has its own unique whale curve. The 80-20 concept is just a general rule of thumb. The difference between companies is how steep the whale curve is on either side of the whale curve. For example, high performing companies have very small tail curves on the right-hand side, while less performing companies would have a steeper tail curve that gets closer to/below the zero line.
Another general idea thought of with whale analyses is that it’s good to maintain/grow the 10-20% most profitable customers, improve the processes of the middle-profitable customers, and either transform or remove the 20% least profitable customers from one’s book of business… as they are creating drag.
Instances Where You Might Lose Money From Customers
The idea that any percentage of your customers causing your business to lose money might seem counter-intuitive. I.e., how could this happen in the first place? Often, customers’ degree of profitability are calculated via a combination of direct labor costs + cogs + overhead costs. The way that overhead costs are ascribed to products plays a huge role in how much it “costs” to do business with a customer. For example, some customers require little customization, little account management. Others require a higher degree of customization and equally high account management. Thus, increasing the cost of doing business with them.
What Can You Do About Unprofitable Customers (Besides “Firing” Them)?
Performing a whale curve profitability analysis is a great way to visualize what products and customers are working well for a business, and less well. But what do you actually do once you’ve uncovered your least profitable customers? A few ideas include process improvements, implementing activity-based pricing, and managing the relationship in such a way to get them to sign up for more services, etc.
Sources: Book: Management Accounting: Information for Decision Making (7th Edition)
