“A business absolutely devoted to service will have only one worry about profits. They will be embarrassingly large.”– Henry Ford
Masterson’s Law: Why You Should “Fire” 10% of Your Customer Base
You own a fledgling business. Let’s say it’s a donut shop. You’re renting a storefront with a work area, counter service, and table space for 30 customers.
After month one, you see a trend. About 80% of your customers come in from 7:00 to 9:00 am. And during those hours, every one of the 30 seats in your shop is taken.
Since there’s no room to add more seats, the arithmetic of your business is simple. If you want to increase profits (and you should), you must find a way to maximize the spending of those 30 peak-hour customers.
Following strategies used in other donut shops that you visit, you begin offering two-for-one deals on your highest-margin items to ratchet up the donuts-per-customer spending. You give even steeper discounts on take-out purchases to increase traffic from customers that won’t be occupying those valuable seats.
Sales go up by 20%. You feel good about that. Additional efforts give diminishing returns. The obvious option is to rent out the store adjacent to yours and expand into that. But you don’t have the cash to do so. And anyway, you aren’t sure you’d get enough extra business to justify the added rent.
It feels like you are stuck. But then one day you notice something.
Six of your “best’ customers, nice gray-haired ladies that arrive every morning after early morning church services, seem to be spending noticeably less than other customers. And they are staying longer.
You take note of their purchases for a week and discover that their buying habits are extremely regular. As a group, they order three inexpensive “old fashioned” donuts and six small coffees – one coffee and half a donut each. And since they are among the first to arrive, they occupy the most desirable table by the corner window and remain there, chatting happily, until 8:30.
You know from analyzing the overall spending during those hours that your average peak-hour eat-in customer buys one medium-sized coffee and 1.75 donuts for an average cost of $6. Furthermore, these average customers stay for only 15 minutes.
In other words, the clacking church ladies are spending half what they “should be” spending and staying six times longer. That’s a huge difference!
In dollar terms, it’s astonishing: $18 versus $216 for the table!
Nice as they might be, you realize that the church ladies are robbing you blind.
Pareto’s Law – also known as the 80/20 rule – tells us that 20% of a customer base will provide 80% of a business’s profit. I’ve owned or run or consulted with hundreds of businesses in dozens of industries in my career, and I’ve yet to encounter one in which this doesn’t apply.
However, I have observed that there is another percentage that is equally reliable and yet rarely discussed: Ten percent of every customer base is costing the business money.
Let’s call it Masterson’s Law in homage to Michael Masterson, an earlier pseudonymous incarnation of yours truly.
How does this come into play?
As Jay Abraham used to tell me when we worked together 30 years ago, there are only three ways to increase profits: 1. Increase the number of customers. 2. Increase the number of purchases they make. 3. Increase the amount they spend per purchase.
The valuable space the church ladies are using for 90 minutes a day is having a significantly negative impact on all three of these potential ways to increase profits.
This is not a minor problem. It is hurting your business and limiting its growth, costing you access to customers that will put dollars to the bottom line. You can’t ignore it. You have to do something.
But what can you do?
You might try to get rid of the church ladies by treating them poorly or by imposing new rules that are aimed directly at them – maybe a prohibition against “sharing.”
But implementing such measures will likely be seen as “unfriendly” by all of your customers, including the golden 20% responsible for 80% of your profits. If they see it that way, they might take their business to another donut shop. And that you definitely do not want.
The solution is to find “friendly” ways to discourage your profit-draining customers. One way to do that is to put up a carefully worded sign suggesting that during peak hours customers should be considerate of their fellow donut eaters and refrain from occupying a table for more than a half-hour. Since the stated objective is to improve the experience of “everyone,” such a request should have the desired effect.
If the church ladies are socially conscious, they will decide to find another, less-busy donut shop to enjoy their morning ritual. If they don’t, you could try something more radical, such as implementing a minimum charge for table seating. So long as it is a bit less than the average customer spend ($6 per person), there shouldn’t be any fallout.
An additional and slightly more radical tactic would be to raise prices across the board. Bump up the prices by 10% or 15%, but then offer your good customers VIP discounts that keep their cost of coffee and donuts to the level it has always been.
With that corner table open for good customers, you’ll be making an extra $200 a day. Then you can go back to improving the customer experience for the top 20%, who will no doubt reward you with additional spending.
We’ve been talking about a donut shop, but Masterson’s Law applies to every business. And the larger the business, the more profound the effect.
My main client is in the middle of a campaign to renovate its marketing strategies towards a philosophy of customer acquisition that favors the top 20% while discouraging the bottom 10%. In this case, we are gradually raising prices for our premium services while ending advertising campaigns that are inadvertently drawing in customers that don’t have the financial resources to benefit from those services.
It’s not snobbery. It’s quite the opposite. It’s being considerate of would-be customers that can’t benefit from our best services. By revamping our advertising, we can discourage them from spending money with us that will not ultimately get them what they need – a basic financial education that they can get from the library or the internet.
Putting up a higher barrier of entry will reduce our revenues and perhaps even our profits for a year or two. But in the long run, it will enable us to provide more and better services to customers that those services can truly help.
How does this apply to you and your business?
Some percentage of your customer base – and you won’t go far wrong by assuming it’s 10% – is costing you money. They are slowing down your sales process, clogging up your customer service lines, demanding refunds almost reflexively, and ratcheting up your chargeback rates because their credit history is bad.
They aren’t bad people. But they are bad for you. By keeping them away from your business, they will find another one more suited to their wants and needs. And your business will be able to grow more profitably while serving your best customers in the best possible way.