Book Review: Islands of Profit in a Sea of Red Ink
Islands of Profit in a Sea of Red Ink, by Jonathan L.S. Byrnes.
This book's fundamental premise is quite simple, and very true:
Nearly 40 percent of every company's business is unprofitable by any measure, and 20 to 30 percent is so profitable that it is providing all the reported earnings and cross-subsidizing the losses. The rest of the company is only marginal
The underlying problem cannot be properly diagnosed--let along fixed--because most of our management processes and control information were developed in the Industrial Era and are no longer relevant to what the author calls the "Age of Precision Markets" (as opposed to the "Age of Mass Markets").
The Chapters in the book, and there are 36 of them, are organized around four topics:
- Thinking for Profit
- Selling for Profit
- Operating for Profit
- Leading for Profit
The author says that these improvements will not cost you money, but I'm skeptical. After all, any real competitive advantage is rarely free, otherwise it's too easy for competitors to duplicate. And since some of those advantages are adding value, customer service, and innovation, how can these be free?
Though perhaps the author means the mindset of these four topics are free. He also uses Dell as an example; but given Dell's financial and profitability issues perhaps he regrets that choice?
The author later lays out three key elements to implementation of the above, which are central to the theme of the book:
- Profit mapping--which is where you look at the profit of each customer, product, etc., at 70 percent accuracy, which is close enough.
- Profit levers--turning bad accounts into good account
- Profit management process
I particularly liked the advice about seventy percent accuracy in cost accounting.
The author points out that arguments over cost allocations will not change action and the measurement itself ends up becoming the project. How true. Cost accounting is not an exact science, nor does it need to be. It needs to be close enough, and seventy percent seems generous.
And this is particularly true in professional firms, where most costs are fixed, like rent and salaries, and do not occur with every passing hour. That's an assumption, not a fact. It's cost allocation, not actual costs.
Where I depart from the author is his insistence that you tie out all costs to match the income statement, so you get a real "cost to serve."
That's right for cost accounting, but not for pricing. Most pricing decisions should be based on marginal costs, not total costs.
Moreover, if you match the income statement, and then add one customer, your costs are over-allocated to all prior customers.
This can become a ridiculous game, and no matter how you slice the cost pie, it's still full of arbitrary assumptions.
Again, the goal is to be close enough. In a professional firm, you don't have to worry about allocating every single cost, just get it close enough. You should focus your time and energy on creating value, then capturing it with better pricing.
10 Business Myths
Chapter 2 contains 10 business myths that I found to be very true, though not all of them apply to professional firms. Here are the myths (in bold) that do, along with some commentary:
- Revenues are good, costs are bad.
- We should give our customers what they want--this is usually different than giving them what they need, which may be a new business model.
- All customers should get the same great service--this is a major problem in most firms, since they do, in reality, discriminate in customer service, but they don't make it transparent, neglecting to manage customer expectations.
- If everyone does his or her job well, the company will prosper--there's no way to execute well a poor strategy. The goal is profit for the entire enterprise, not it's individual components. This is very true in professional firms, which is the problem of trying to run a profit and loss on every 6- minute unit of time.
- Big changes can't be made without a crisis--it shouldn't take a burning platform to implement significant change, since fear rarely produces clear thinking.
Three Core Principles of Strategy
I also enjoyed Chapter 4, and the three core principles of strategy:
- It's all about customer value.
- Strategy is defined by what you say no to.
- You have to be best at something.
My colleague Tim William's book--Positioning for Professionals--does a much better job explaining these points.
I was hoping the author would discuss how to rid a business of unprofitable customers, but his advice seemed to be try to make them better customers first, and/or raise their prices.
Fair enough, but in professional firms, those customers that firms can't add value to should be let go, not just increased in price. An "F" customer does not become an "A" customer just because they are paying four times more, since that's the ethic of the world's oldest profession, not true professionals.
Maybe the author thinks strategy (what not to do) will handle this issue, but most firms have bad customers they should shed immediately, and this book provides no guidance on how to do so.
But after Chapter 5, this book becomes repetitive, and then degrades to boredom. The author assaults the reader with what needs to be done, a typical Mommy checklist. Each chapter is short, but contains a "What's Next" section that just grates, and is completely useless.
The book didn't get better until the end, where the author talks about paradigmatic change--that is, significant change, which is the most rewarding.
Think of your resume, detailing a job description. Do you want it to read: "Did a good job of doing what always was done."
I also liked this line: "Continuous improvement beats postponed perfection."
Overall, the book is too long (unless you need to dive into supply chain management), but if you read just the first section, along with the last, it has some worthwhile lessons, though I've read better.