Customer concentration risk can potentially be catastrophic for any business owner.
Having all your eggs in one basket can lead to a lot of uncertainty, a lack of control, and can lead to serious consequences.
The good news is, there are things you can do to reduce the risks involved with high customer concentration.
In this post I’ll cover 9 actionable ways you can create a more stable, diversified customer base.
What is customer concentration risk?
Customer concentration risk refers to the degree to which your business is dependent on a small number of customers.
In other words, it’s the risk that your business will suffer if one or more of your large customers decide to stop doing business with you.
It can also occur when the majority of your customers are in single industry or geographic area, which could leave you exposed if those industries suffer from an economic downturn.
Why is customer concentration bad?
When you’re heavily reliant on just a few customers, this opens up a lot of potential threats.
- If one of those customers decides to take their business elsewhere, it can put you in serious trouble and be a massive hit to gross revenue.
- Even if they don’t leave you, you’re leaving yourself with limited negotiating leverage – if one of your customers decides that they want something that you can’t provide, then you have little choice but to bend over backwards to make them happy.
- When you are getting ready to exit your business, high customer concentration can be a major red flag for potential purchasers.
If any group of customers or client accounts for a major portion of revenue, this is seen as a risk factor which can lead to a lower value purchase price.
Prospective buyers want to see stability, and that means a diversified group of customers.
What is considered low customer concentration?
There’s no hard and fast rule for what constitutes low customer concentration, but generally speaking, it’s a good idea to try not to be too dependent on any top customer.
A good rule of thumb is that no single customer accounts for more than 10% of your total revenue.
How do you measure customer concentration risk?
Measuring customer concentration risk is relatively simple. All you need to do is look at your revenue by customer and calculate the percentage that each customer represents.
A great ‘quick and dirty’ way to see if you have a concentrated customer base is to look at your largest five customers. If these customers account for more than 50% of your total revenue, it’s likely you have high customer concentration.
How can customer concentration risk be reduced?
1. Create recurring revenue streams
Recurring revenue streams can help reduce customer concentration risk by providing a predictable and stable source of cash flow. This can be achieved by offering subscription-based services or by selling products that require ongoing maintenance or support.
If you’re interested in a deeper dive, I have a detailed post on 11 ways to incorporate recurring revenue into your business.
2. Identify and target new customer segments
This will help you expand your customer base and reduce your reliance on any one group. This can be done by actively seeking out new customers in different industries or geographic locations. By diversifying the customer base, a company can reduce the impact of losing a single customer.
For example, if a company’s customer base is heavily concentrated in the oil and gas industry, it may be vulnerable to fluctuations in that industry
3. Develop deeper relationships with existing customers
One of the best ways to reduce customer concentration risk is to have a loyal customer base that values your products or services. You can develop long term relationships with existing customers by providing exceptional customer service, understanding their needs and pain points, and building trust over time.
When customers feel valued, they are less likely to leave, and are far more likely to refer others to your business.
4. Create multiple revenue streams
A company can reduce its dependence on any one customer by developing multiple revenue streams, such as offering different products or services.
One of the biggest opportunities I see in businesses I work with is selling more to existing customers and improve customer lifetime value. Most are leaving serious money on the table and missing out on cross-sell, upsell, and high ticket offer opportunities.
For example, a software company may diversify its revenue streams by offering consulting services, training, or licensing. If you don’t have a well established value ladder in place, this would be a great place to start.
5. Risk management and RFM
Consider doing regular reviews of your customer base and an analysis of the potential impact of losing a major customer.
I think every business should take the time to do an RFM analysis and come up with a game plan for managing the risk of losing a significant customer. Not all customers are created equal.
At a minimum, can you give them special treatment or attention?
6. Strengthen your sales pipeline
By constantly developing new leads and sales opportunities, the company is less likely to be overly reliant on any one customer. By having a strong pipeline of potential customers, a company can better weather any loss of a single customer.
By identifying new potential customers and nurturing relationships with them, you can ensure a steady stream of new business coming in. This is especially important when you lose a major customer, as it can help mitigate the impact of that loss.
7. Create a strong brand
A strong brand can help to attract new customers and reduce the company’s dependence on any single large customer.
Creating a strong brand is not just about having a great logo or catchy slogan, it’s about building a reputation for quality, reliability and trustworthiness. A strong brand is one that consistently delivers on its promises and provides value to customers.
One way to create a strong brand is by building a strong company culture. This means creating a workplace where employees feel valued, respected, and empowered. When employees are happy and engaged, they are more likely to provide excellent customer service, which in turn, can help to build a strong brand.
Another way to create a strong brand is by leveraging the power of storytelling. By sharing the unique story of your company, its values, and its mission, you can create an emotional connection with customers. This can help to differentiate your brand from competitors and make it more memorable and appealing to potential customers.
Once you have created a strong brand, it’s important to actively manage and protect it. This means monitoring feedback, addressing any concerns or complaints, and continuously working to improve your products and services.
8. Create a customer retention strategy
A strong retention strategy can help to keep customers loyal to the company, reducing the risk of losing a significant customer. This can include offering loyalty programs, regular communication, and providing excellent customer service.
A few tactical ways to do this:
- Create a world-class customer onboarding process
- Encourage customers to agree to long term contracts whenever possible
- Track and optimize customer success metrics
9. Be proactive in managing customer complaints
Addressing customer complaints quickly and effectively can help to prevent customer churn. By addressing complaints, the company can show that it values its customers and is committed to providing excellent service. This can help to build trust and loyalty, and reduce the risk of losing a significant customer.
Conclusion
High customer concentration can be a serious problem for any business, but by diversifying your customer base and implementing the strategies outlined above, you can protect your business and limit the risk involved.
Fewer large customers can mean more stable cash flows, reduced risk of customer losses, and a healthier business in the long run. Best of all, it results in a higher valuation and sales price.
I hope you found this post helpful – if you have any questions feel free to drop a note in the comments. Good luck!
