Revenue Concentration Risks

When Entrepreneurs start their businesses, they might depend on one or a few clients for bulk of their revenues. This revenue concentration scenario is acceptable for the very early start-up stage of a company.

As the company’s revenues grow, hopefully the increase is from having more customers rather than only from additional business with the same clients. Diversification of the source of revenues is a critical factor in the long-term success of the company.

The risks of concentration of revenues from only a few clients or one or two big customers could be huge. If a significant portion of the revenues are derived from, say one customer, it could be devastating for the company if such business was lost, reduced dramatically, or even if there were payment problems with such receivables.

Entrepreneurs, at the appropriate stage in their company’s growth, would be well advised to diversify the sources of revenues such that dependence on a few clients does not end up hurting their business.

Entrepreneurs might need to determine a risk tolerance model to determine what is the maximum revenue concentration from one client that would be acceptable for their business. In addition, they need to also assess the acceptable revenue concentration levels from a small number of clients. Such risk assessment would have to take into account not only the business and financial stability of the customers, the length and quality of the relationships, and the competitive situation, but also their own company’s performance with such clients and the level of risk that the company can take without jeopardizing its survival.

Managing revenue concentration risk is a critical component of Doing the Right Things!

Ravi Patel

www.patelCFOservices.com

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Published in: on October 10, 2011 at 5:56 am  Leave a Comment  
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