Fire Bad Customers

If you're in a hole, stop digging

I was helping a buddy of mine, Rob with a management offsite recently. Rob has been running a private software and services company for many years with revenues approaching $50m. The company has been entirely self-funded without external venture investment. They’ve been through major technology waves and market transitions and have always come out stronger. But, like a lot of companies, the last couple of quarters have been tough. I hear from investors that companies that used to be growing at 70% year over year are now doing half that. There’s far more scrutiny than before on expenses, so customers are canceling all but essential projects. Especially for companies that have had recent layoffs, unless a project is going to save money, it’s hard to make a compelling case.

One thing that Rob was emphasizing as a corporate goal for 2024 was to get back to a strong positive EBITDA, that is, earnings before interest, taxes, depreciation, and amortization. In other words, the company has to be meaningfully profitable.

That’s hardly shocking, except in silicon valley, where growth at all costs, meant racking up staggering losses and burning through large venture capital rounds in recent years. In the real world, that is, non-venture backed companies, you are either running a profitable business, or you shut down. And maybe for a lot of companies that raised in the boom times, this will also be the case.

When we dug further into Rob’s financials, it was clear that they had some customers that are costing them money. These are negative margin customers. I encouraged him and the management team to dive into the patterns of what caused some customers to be negative margin and what caused others to be positive. It sounds kind of obvious, but stop doing negative margin deals. You can’t lose money and make it up in volume.

That said, it can be very difficult to trace all the expenses associated with specific customers and identify the exact nature of why some deals are losing money. Did we discount too much to win the deal? Was there a scope creep problem? Were projects over-staffed with senior people? Did the promise of future profitable expansion fail to happen?

Whatever the attributes are that makes a customer unprofitable, there are two things that need to be done. First of all, you need to figure out way to prevent the problem in the future. And in the short term, you need to fix those customers.

If find yourself in a hole: stop digging.

I encouraged Rob and his team to identify the negative margin customers and develop a plan to make them profitable. Either figure out a way to service them cheaper, renegotiate the deal, sell them something higher margin to offset the losses or fire them. You cannot run a sustainable business by losing money.

In 2024, if you’re trying to raise a series B or C round and don’t have a plan to get to break even, you’re going to find it tough sledding.

So if you’ve got customers who are losing you money, talk to them, let them know you can’t continue to serve them and give them some options. They might be angry or disappointed, but if you can’t figure out a way to serve them profitably, you cannot keep them around. And in the long term, no one wants their vendors to run unprofitably, because that means they are doomed to failure.

Don’t Burn Your Employees

While unprofitable customers are the most obvious ones to fix or fire, they aren’t the only ones. Sometimes you have customers who are just too much trouble. They’re never happy, they yell at your staff, they never do the thing they’re supposed to do. When your staff hates working with certain clients, you should think carefully about whether they are worth keeping. If you’re going to burn people out, it’s probably not worth it.

Sometimes there’s also a question of should you do business with customers who might be —what’s the word— distasteful? Every high volume SaaS business will have to deal with this issue now and then. You sell to lots of businesses, whether you’re selling a database, a developer platform or a customer service solution. And some of those businesses are going to be questionable.

In the early days of Zendesk, we sold to all kinds of fringe businesses who were marketing everything from bail bonds to vibrators. My personal view was, if it’s not illegal, we’re not going to judge them. But I also recognized some of our employees might have a different view. I would never ask employees to work with a client that made them uncomfortable. And ultimately, if no one wanted to work with a client, we couldn’t keep them, could we? Luckily, it never really came to that.

But those were more innocent times. And now it seems that with ten more years of internet growth, there are a lot more fringe groups on the internet: racists, hate mongers, anti-vaxers, election deniers, etc. Most SaaS companies have “terms of service” that specifically call out hate speech, racism and other toxic behavior. Social media has made our discussions more polarized than ever. Sadly, many social media companies and platform vendors continue to hide behind a veil of “enabling free speech” claiming that censorship is a slippery slope.

SaaS companies, social media platforms, newspapers and television networks are private actors and are not bound by the US First Amendment to protect freedom of speech. Such companies have the right to moderate the content and usage of their platforms. It’s not always easy to know where to draw the line, but maybe the more slippery slope is not to do so.

Have you ever regretted selling to a customer? How did you address the problem? Post your comments below.