What Is Customer Concentration and How to Combat It?Aug 20, 2022
By Darren Cherry
Customer concentration is the extent to which your business relies on particular customers for revenue. When these customers account for a large proportion of your company’s sales, that’s customer concentration. If you sell different products or services to different people, this could be a potential risk; if one of them decides not to buy from you again, it could have massive implications for your company. This article explains customer concentration and how to combat it in your organization.
What is Customer Concentration?
Customer concentration occurs when one or a few customers account for a large proportion of your business’s revenue. It is a risk when these customers account for a significant portion of your sales volume for several reasons. The most obvious is if one of these customers decides to stop purchasing from you, you will lose a lot of revenue. That’s why many organizations have a policy that prohibits or limits sales to one customer from accounting for more than X percent of sales — typically something like 5 percent. You are vulnerable if your business relies on a few big customers for revenue. If one or more of these customers stop buying from you, you will lose a lot of revenue. Another risk of customer concentration is that if you have a very high-priced product, you may lose sales because you can’t sell your product at an attractive price to less affluent customers.
How Does Customer Concentration Impact Your Company’s Value
The value of a company is calculated by adding up the profits it makes and the revenue it expects to earn in the future. This is known as the “value of the business.” Enterprises typically receive more money by selling more products or services to more customers. In other words, they increase their sales volume. If your company depends on a few customers to generate the bulk of its revenue, your company value is greatly reduced. This is because the company is now solely reliant on a handful of customers and has limited options for growth. You need to acquire new customers to grow, but if your business relies on just a few customers, it isn't easy to do so because these customers are already being served.
Strategies to combat customer concentration
There are several strategies to combat customer concentration. These include diversifying your customer base, expanding your product or service offerings, and partnering with suppliers or distributors to increase the number of customers you serve. Let’s take a closer look at each of these strategies.
Diversify your customer base - One of the most effective ways to combat customer concentration is to ensure your company has a diversified customer base. This means you are selling your products and services to different people. If one customer stops buying from you, your company’s sales volume will have a minimal impact.
Expand your product offerings - If you are selling one product only, you could be vulnerable to customer concentration. The risk is reduced if you sell several different products or services because if a customer stops buying from you, it will affect only one product line.
Partner with suppliers or distributors - If you sell a product or service that is high in demand but low in supply, you could be vulnerable to customer concentration. By partnering with suppliers or distributors, you can increase the number of customers you serve and offset any customer concentration risk.
An acquisition of one or several smaller businesses is another way to reduce concentration. Look for companies that may serve a different customer base or have strengths in different products or services.
There are several risks associated with customer concentration, including decreased company value and reduced revenue streams. There are also several strategies you can employ to combat this risk. The most effective strategy is to diversify your customer base and sell your products or services to different people.
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