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The Lollapalooza Effect of Increasing Returns

Updated: Mar 17, 2023

Earning sales equity improves all three value sources and creates a lollapalooza effect of increasing returns. Increased revenues combined with lower costs to serve equal profitable growth.

Over time, you have an opportunity to grow your revenue while simultaneously reducing your expenses, or EBITDA: Earnings Before Interest, Taxes, Depreciation, and Amortization. Imagine you get a $1 million check from a client and spend $900,000 on salaries, products, expenses, and so on; your EBITDA, or my gross profit, is $100,000. By focusing on retaining that client over time, your revenue will increase and costs will decrease. Additionally, as the gap between revenue and expenses widens, your EBITDA will grow.

This is important— especially for a public company. The stock price, which a lot of executives get compensated on, is a factor of PE ratio times earnings. If the PE ratio of your industry is ten and your earnings are $2, then the stock price is $20. For an executive whose pay is based on stock price and wants to make more money, the only thing that can change is their company’s earnings; you cannot change your industry’s PE ratio. Basically, you either grow your revenue, or you reduce your costs! If you happen to do both and retain clients, then you will get a multiplier effect. Eventually, you can cross-sell to retained clients and also get them to buy more with you. Additionally, long-term clients are also not as price sensitive, and your cost of serving decreases over time.

This can be exemplified by one of our clients. When we first began working with this company, we used our patented process to determine that their client portfolio consisted of 46% trusted advisors, 18% predisposed, 35% transactional, and 1% antagonistic relationships. Their company revenue was $40 million and their profit margin was 13%. The previous year, they made $5 million of gross profit on that $40 million, but the multiple in their industry is $8 million. We calculated that the value of the firm was $42 million, which is not bad, but could be better.

Our research has shown that on average, an antagonistic insurance customer will only buy 6% of their insurance from their current broker, while transactional clients will buy 12%. That is double the spending right there! Meanwhile, predisposed clients buy 27%, and trusted advisor clients purchase 38% of their insurance from the same broker. By helping our client strengthen their relationships, we could markedly increase their revenue through cross-selling.

Improving Client Relationships Increases Gross Revenue By improving its client relationships, our client was able to increase its gross revenue by 21.5%! To put this in perspective, the company was getting $40 million from their current group of customers, and by strengthening their relationships, they could generate an additional $8.6 million out of those exact same customers.

We also know that increasing the number of predisposed and trusted advisor clients leads to greater retention. Our research shows that there is only a 10% chance that clients in the antagonistic zone are going to stick around. With transactional clients, there is about an 84% chance of retention, and for predisposed, there is a 92% chance. Lastly, trusted advisors have a 99% chance of staying.

When we first started working with that client, their retention rate was 91.6%, meaning that their clients’ average tenure was 11.9 years. By strengthening their client relationships and moving more clients into the trusted advisor and predisposed categories, we were able to increase their retention rate to 94.9%, making the average tenure nineteen years. That’s eight more years of revenue from existing clients! Keeping those same customers for an additional eight years translates to $330 million using a net present value calculation, or $128 million in current dollars.

You simply cannot charge clients enough to make this uneconomical. It all comes down to building sales equity and retaining existing clients.

What surprised you the most about this article? Let us know in the comments below! Afterward, follow us on Linkedin at “Encompass-CX” for more blogs and other updates.

Co-written by Alexis Audeh

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