How to Analyse Customer Concentration and Dependence

Seven steps, run in order, turn a customer list into a reading of it. The steps are capped by whatever they start from, and the starting point here is a complete list of names. Anjani Stationers Private Limited, an invented stationery maker in one city, sells hard-bound registers and exercise books directly to 36 schools and institutions, and it can name every one of them, invoice by invoice. Where a business cannot produce that list, none of the seven steps below can be run at all.

The second thing it rests on is stranger, and it is what makes the whole sequence work. The same customer is measured twice, against two totals that are built in completely different ways. One total is everything the business earned across a whole year. The other is everything still owed to it on one particular evening. Because those two totals are constructed differently, one customer can be large in the first and larger still in the second, and the distance between the two is what steps three and four go looking for.

The third thing is a sentence somebody has already written down: the concentration question and the collection question are the same question wearing two labels. The observation starts this sequence rather than ending it. An observation becomes a procedure only when somebody says what to do with it, and the instruction is blunt: the two shares go side by side, one is subtracted from the other, and the difference is read with its sign attached.

What Is Customer Concentration, and What Is Customer Dependence?

Two words get used as though they were interchangeable, and they are not. Concentration is a share of revenue held by a small part of a customer list. Dependence is what that share turns into when the small part is a single customer that could, on any Tuesday, decide to stop.

Hold the two apart with a household picture first. A house running on one salary and a house running on four are both households where the money arrives, and on a bank statement the total can look identical. The difference is not the size of the income. The difference is how many separate decisions, made by how many separate people, would have to go wrong before the income changes. A share is a number, and a dependence is a number plus a head count, and it is the second field that goes missing.

Step One: How Many Customers Are There?

Step one is to list every customer the business invoiced during the period and count them. Counting is the whole of it. The count is written at the top of the working sheet before anything else goes on it.

On Anjani Stationers the count is thirty six. All thirty six are schools and institutions, each one an institutional buyerAn organisation that buys in its own name rather than a person buying for a household: a school, a hospital, an office. An institutional buyer usually buys on credit and pays by transfer against an invoice. buying on credit against an invoice, and there is nobody in between: Anjani Stationers sends the goods out on its own van and sends the bill itself. The count counts accounts, not buildings. One account can cover several school sites under one management, and the account signs, pays, negotiates and can walk away. The head count is written down first because every figure produced by the six steps after it is read against this number and means nothing without it.

The household version is a step people run without noticing. Before working out how much of a month's money comes from one job, a household counts the jobs. Nobody would think of doing it the other way round, and yet a customer list is read the other way round constantly, starting at the biggest share and never asking how many names were in the list at all.

Step Two: What Share of the Revenue Does the Largest Customer Take?

Take each customer's revenue for the period, divide it by the period's total revenue, and write the answer beside the name. Sort the list so the largest sits at the top. Step two is arithmetic and nothing else, and the temptation to call the top figure something is the temptation to skip five steps.

On Anjani Stationers' second year the total was Rs 2,70,00,000/-. Of that, the Sunrise Public School group, an eleven year customer, accounted for Rs 81,00,000/-, or 30.00 per cent. The remaining Rs 1,89,00,000/- is spread across the other thirty five accounts and averages Rs 5,40,000/- each, and Rs 5,40,000/- against Rs 2,70,00,000/- is 2.00 per cent apiece. One name at 30.00 per cent and thirty five names at about 2.00 per cent each is the first thing this customer list says out loud. Whether a customer list shaped like that is a fragility or a bargaining position is a fair question and a sharp one, and it is argued under B2B vs B2C: How Selling to Firms Differs From Selling to People.

Both parts of every ratio are printed beside it, so the arithmetic can be rebuilt without trusting the result: Rs 81,00,000/- against Rs 2,70,00,000/-, Rs 38,00,000/- against Rs 95,00,000/-, and Rs 57,00,000/- against Rs 1,89,00,000/-.

Step Three: What Share of the Money Still Owed Does That Customer Take?

Now run the identical division against a completely different total. Take each customer's outstanding balance and divide it by the whole of what is owed to the business at the period end. Everything owed and not yet collected is a trade receivableMoney a customer has agreed to pay for goods already delivered, sitting as an asset until the payment arrives. A trade receivable is created by the invoice, not by the cash., and the total of them before anything is deducted is the gross bookThe full amount customers owe, added up before subtracting anything the business has already decided it may not collect. Gross means before that deduction..

On Anjani Stationers the gross book at the end of year two was Rs 95,00,000/-. The Sunrise Public School group owes Rs 38,00,000/- of it, or 40.00 per cent, and every other account together owes the remaining Rs 57,00,000/-, or 60.00 per cent. The second share is taken from a different total and is not a second opinion about the first one. How that balance would be split by ageingSorting what is owed into bands by how long each amount has been outstanding, so a schedule shows what is recent and what is old., and what a business does about the old end of it, is set out separately in the accounting notes and no part of it is needed here.

Step Four: What Is the Gap Between the Two Shares?

Take the share of the money owed, subtract the share of the money earned for the same customer, and write down the answer together with its sign. Then stop. Step four produces one number with one sign on it, and everything else that could be said at this point belongs to somebody with access to the contracts.

On the Sunrise Public School group, 40.00 less 30.00 is ten points, and the sign is positive. Read the sign like this and no further. Positive means the account holds more of the book than of the year. A large slow-settling customer looks like that on a sheet. Negative means the account holds less of the book than of the year, and a large fast-settling one looks like that. The ten point gap is the dependence itself rather than evidence pointing at one somewhere else.

Step four returns a gap with a sign and stops there. No threshold at which a gap turns into a problem has been established anywhere, so step four names none. Why the two shares pull apart is shown by the panel further down, and the mechanics of how a collection period is put together sit with the accounting notes rather than with this sequence.

Step Five: How Long Is That Customer Taking to Pay?

Express the customer's outstanding balance as a number of days of its own sales, then do the same for everything left in the book after that customer is taken out. Two figures come out, and step five writes both down. An accountant would call this measure days sales outstandingA balance restated as the number of days of sales it stands for, so an amount owed becomes a length of time instead of a rupee figure., and how it is built is set out in the financial accounting notes.

On Anjani Stationers, Rs 38,00,000/- owed against the group's own Rs 81,00,000/- of annual sales comes to about 171 days. Rs 57,00,000/- owed against the other thirty five accounts' Rs 1,89,00,000/- comes to about 110 days. The days and the share are the same fact measured in two units, and the second unit is the one people will argue about. Somebody who will not accept that a 40.00 per cent share of the book means anything will usually accept that one account is sitting on its invoices for about two months longer than the rest of the list.

Step Six: How Many Heads Sit Behind Every Large Share Being Compared?

For every large share on the table, ask one question: how many customers produced it? Write that count beside the share. A share already looks like a finished figure, so step six is the one most often skipped, and it is the step the whole sequence was built to deliver.

Anjani Stationers' 30.00 per cent is one account. Setu Bazaar, an invented marketplace elsewhere in these notes, reaches 50,000 people, and its heaviest 5,000 of them produce 40.00 per cent of its revenue. Two shares, both large, both correctly measured. One account at 30.00 per cent is a dependence and five thousand buyers at 40.00 per cent is a distribution, and putting the two in one column has merged two different objects under one heading. The instruction is short enough to keep: count the heads before calling a share a concentration.

The point sits on the street before it sits on a sheet. A rickshaw driver takes 30 per cent of a month's fares from one office contract, and one manager's signature ends it. A sweet shop takes 40 per cent of a month's takings in the week before a festival, from several hundred people who have never met each other, and there is no signature anywhere that ends that. Both are large shares of a month. Only one of them is a single counterpartyThe other side of a transaction: the person or organisation a business has dealt with and who owes it something or is owed something. with the power to remove the whole share in one decision.

Step Seven: How Long Have Both of These Figures Been on the Sheet?

Pull the same two shares for the previous period and set them beside this period's. Two rows, four figures, one comparison. Step seven asks for nothing more. Reaching a second set of accounts is harder than doing a second calculation, and that is why people leave step seven out.

On Anjani Stationers step seven returned something that is not a percentage at all. Both figures, the 30.00 per cent of revenue and the 40.00 per cent of the money owed, were sitting on the sheet a full year before the Sunrise Public School group stopped paying. The relationship is eleven years old and is the reason the order bookThe work a business has already been asked to do and not yet delivered. An order book is a list of promises to buy rather than a record of sales already made. refills every spring, and the eleven years are what make the age of the two shares readable in the first place. A share that has sat at 30.00 per cent for years and a share that arrived last quarter are two different objects wearing the same figure, so the most useful thing these seven steps return is a date rather than a number.

The plain thing about that year needs saying carefully. A figure being visible for a year is a fact about what could have been seen. The fact is not a judgement about anybody who was busy running a printing unit and a delivery van at the time.

What Do the Seven Steps Produce, and What Can They Never Produce?

Run all seven and lay the outputs on the table. A head count of 36. Two shares, 30.00 per cent and 40.00 per cent. A gap with a sign, ten points positive. Two day figures, about 171 against about 110. And a date: both shares were visible for a full year. Five things, every one of them measured rather than judged.

Now the harder half. Six things the seven steps do not do, and none of the six is missing by accident. The steps do not decide whether to keep the customer. The steps do not put a price on the exposure. The steps set no amount aside, and an amount set aside is what a provisionAn amount a business deducts from what it is owed because it has decided part of it may never arrive. A provision reduces the reported asset and the reported profit together. would be. The steps rate nobody. The steps put a value on nothing. And the steps reach no verdict on whether the business is a good one. Ending in questions rather than in a verdict is the correct outcome for the seven steps, not an unfinished one. The reason is one line long: every one of those six turns on what happens next, while the seven steps only ever measured what was already sitting there.