By Lee Simmons
Remember when “big data” was the hot new thing in business? It was a pretty simple proposition: My company is sitting on a wealth of customer data; therefore, I can study that data to ferret-out customers that present the best opportunities from those that present the most risk. It sounded easy at the time, but the truth is that the business world continues to struggle with how to find the best insight within the customer portfolio. When customer data becomes unwieldy, we need an organized approach to reigning it in.
Defining segmentation is pretty straightforward. According to one recent report by Synchrony Financial, “Customer segmentation is a tool that enables marketers to customize their efforts based on the behaviors of their customers.” When you start to categorize your customers based on different segments – such as industry, geographic location, average revenue, and number of employees – certain behavior patterns begin to emerge. That is powerful information that lets you more effectively target new customers while safely retaining your most valuable existing ones.
For finance and credit teams, portfolio segmentation enables the credit manager to step back from individual transactional line items and analyze one account in the context of the entire portfolio. Many credit managers segment their portfolios into strategic, commercial, middle market, small business and key accounts – as well as other groupings most relevant to the company's strategy. This collective view reveals which customers underutilize credit lines, which consistently come in over their credit lines, and other factors that point to where risk and opportunity live within the portfolio.
Imagine you have a high-risk customer – let’s say a fast-food restaurant in Los Angeles. It makes no sense to assume all small fast food restaurants are high risk. The macro view allows you to step back and understand that this particularly sized business, within its specific industry and within this particular portfolio segment, is actually more likely to present little risk. You can therefore propose to your sales colleagues that this industry is in fact ripe with opportunity. Maybe that Los Angeles restaurant resides in a bad neighborhood. Perhaps it is poorly managed. But unless that restaurant wants to order a product or service from you, you don’t focus on it. You focus on the real risk.
Once you’ve gotten a better fix on the customers, you can begin to develop strategies for better serving those segments that present the best opportunities. Not only that, but you can work to maximize performance in all of your customer segments, even seemingly risky segments. This may include pruning your most unprofitable customers to focus on the most profitable.
Portfolio segmentation can produce a number of tangible improvements in decision-making processes. Credit managers can access real insight faster, manage risk more effectively and proactively to reduce days sales outstanding (DSO) and bad debt, and improve internal communication and cooperation across teams.
Successful Segmentation Strategy: Five Critical Elements
Based on the work Dun & Bradstreet does with finance and credit teams large and small, here are five key actions a segmentation strategy should enable...
1. Proactively perform account reviews and prioritize collection activities to improve cash flow and reduce DSO.
For credit teams today, deteriorating customer credit levels is a top challenge. By some measures, more than a third of every day is spent working on accounts on credit hold. And everyone realizes that the longer it takes customers to pay, the less likely they become to pay at all. It calls for a more proactive management of account reviews and prioritization of collections – both of which portfolio segmentation can help solve for.
Collections and credit are related but different animals. DSO constitutes the byproduct of a company selling a product or service on open-credit terms with the expectation of being paid on those terms. Late payments, consequently, have a negative impact on cash flow. So from a collections perspective, improving DSO stands at the forefront of the conversation you’re having (or should be having).
On the credit side of the equation, the team is assessing risk trends and predicting the likelihood of certain customers within certain segments paying more slowly. If you are a credit manager, you probably want to segment according to your company’s definition of sales channels. And then within each segment lies different risk profiles. When onboarding new customers, the credit manager’s responsibility is to evaluate their creditworthiness (duh). An important part of these reviews lies in segmenting the portfolio for high, medium and low risk by combining your data with a third-party provider to understand possibility of failure or delinquency. You can also segment by the customers who have taken the longest to pay or owe the most, letting you go after both the riskiest and also the lowest risk because they clearly have the ability to pay. You can also call out any specific industries that show a greater propensity for being in distress and see how you might gain efficiencies across corporate family trees.
And don’t forget that you’re not just looking for the negative; upsell and cross-sell opportunities arise during this process as well.
2. Build a collaborative relationship with sales and marketing to grow the business.
Sales leaders who are responsible for a particular portfolio segment are inherently interested in the makeup of that segment. As you start the segmentation process, you’re drilling into what sales reps are most concerned about. What anomalies present themselves? What behavior trends? Which accounts are under-utilizing credit limits and therefore are low-risk targets? Answering these questions tells you a lot about your portfolio – and sharing the insights with sales lets you build what’s probably the most critical cross-functional relationship for driving growth.
In addition, segmentation is a multidimensional function. Once you slice and dice a massive portfolio, you now have a nearly exponential amount of subsegmentation you can conduct. For every rep who has a vested interest in a particular part of the portfolio, you can carve out a specific segment for him or her. Remember, the point of arrival should be to get as granular as possible while still adding holistic value to your sales team.
On the other hand, for the marketer, assigning a credit line to each customer is critical, because you begin to observe different customer behaviors. This naturally prompts direct questions. For instance, marketing may consider focusing on larger businesses as a credit opportunity. But once they look at the segmentation analysis, they realize many of those large businesses are bleeding cash. This leads to important questions: Why are you underutilizing/overutilizing in this segment? Why are you focused on big accounts? Why is this company so vulnerable to risk?
3. Manage risk strategically. A proactive approach to adjusting credit and collections policies can increase cash flow.
Segmentation is often based on average days to pay. You may see a significant number of clients who pay 31 to 60 days after invoicing, then you may see a significant number that pay 61 to 90 days after invoicing. Why do they pay this way? Well, you might discover that a large contingent of customers hail from the financial services industry. Financial services companies tend to pay more slowly and dictate payment terms. Here, you begin to connect the dots. Without segmentation, that would not have been possible.
This works equally well for assessing risk among your vendors. You can conduct a risk-based analysis to your vendor register to see all vendors within a particular industry. By segmenting your vendor list, you might find that your software providers consistently pay late. However, you also know that software companies often wait for systems to be fully implemented before delivering payment. Segmentation makes this insight possible.
A company may have a decent number of strategic accounts it deems most important. Oftentimes, however, those accounts prove to be the worst payers. Because the dollars are so heavily weighted in their favor, they dwarf anything coming beneath them. They’re big, so they can often dictate terms. The point is segmentation is important in determining the payment behaviors of customers and vendors, because you can identify interesting behavior patterns that you just might be able to leverage.
4. Manage and validate the bad debt reserve to maximize profitability.
This is analytics based on the amount of dollars at risk. Suppose you use a conventional bad-debt provisioning process where you reserve 10% on all accounts that pay late. This doesn’t necessarily account for deeper historical behavior, though.
Ask this: Why negatively impact expenses by reserving that much cash when a customer like GE has only the occasional anomaly of paying late? Through the segmentation process, you begin to see that the dollars actually at risk could be considerably lower than when you simply examine the surface data. When you rely on risk-based analytics, you’ll probably conclude that GE is much more likely to present a very low risk. Therefore, you could be reserving 1%, not 10% as the traditional approach might dictate. Segmentation based on predictive analytics and third-party data brings consistency that most companies would highly welcome. It lets you maintain regulatory compliance in a much more efficient way.
5. Embrace management reporting to improve internal communications and cooperation.
This addresses not how you see risk within the portfolio – but how you report on that risk to management and cross-functional executives.
Some companies are content with a credit manager declaring, “Midsize businesses are a problem.” Maybe so, but that doesn’t provide much insight into the state of the company’s midsize customers. Where segmentation comes into play is how you start to discover why these businesses represent a high-risk segment. The segment may move in a financially distressed way. But why? Sales reps are keenly interested in knowing a segment of their portfolio is inherently high-risk. By getting the details behind why that risk is present, you can then train sales reps to conduct more targeted searches for financially stable businesses.
Just the same, you can use analytics to highlight the positive areas of the portfolio by targeting upsell and cross-sell opportunities. When you start to drill down and provide additional insight, you become a key player in the sales-enabling space. You’re a business partner now, because your granular insight is on point.
But you have to be able to illustrate that insight effectively. If you’re producing spreadsheets that nobody knows what to do with, start over. Business leaders want actionable reports. They want to see only what they care about, so customization is critical. When segmentation produces a point of view your CFO can look at take action on, your segmentation strategy has paid off.
The big picture of portfolio segmentation is all about revealing insight – insight such as propensity for disputes and carrying severely delinquent receivables. Real power lies in the ability to specifically analyze a segment for your sales colleagues 60 days before going to market. Credit and risk professionals must understand that their work can – and should – go beyond the transactional level.
Naturally, segmentation isn’t a one-size-fits-all approach to revealing insight from your customer portfolios. Where “industry type” might be important for the Fortune 500 company down the street, “geographic location” might be more important for the Fortune 500 company right next door. The takeaway is this: Regardless of what you’re selling, segmentation is a powerful tool to help turn customer insight into potentially unprecedented growth.