Good and Bad Profits

Fred Reichheld is best known for his (over) exuberant advocacy of the Net Promoter Score. Introducing Net Promoter he suggests a difference between good and bad profits; an interesting, though theoretically imprecise, idea.

“Short of outright fraud, isn’t one dollar of earnings as good as another? Certainly, accountants can’t tell the difference between good and bad profits. All those dollars look the same on the income statement.  

“While bad profits don’t show up on the books they are easy to recognize. They’re profits earned at the expense of customer relationships.” (Reichheld and Markey, 2011, page 25)

In Reichheld’s thinking good profits are those that marketers like to discuss. They are earned following the marketing concept — giving customers products they value. He recommends pursuing such profits.

Reichheld distinguishes these from bad profits. Here he means fees that irritate consumers, and fines that punish minor consumer infractions. (Think of your cell phone provider). This is a useful debate to have. Unfortunately “bad profits” is poorly defined. There are two things it could cover.

Firstly, annoying fees that customers swallow because the market is uncompetitive. Some irritating fees probably benefit companies. The customers may hate them but what option does the customer have but to pay up? This sets up an interesting discussion over the marketing concept — what if irritating your customers is profit maximizing because you have them trapped?

I think that Reichheld mostly means something else by bad profits. You annoy customers so much with petty fees that in the long run you lose money. Basically you collect cash off your customers now at the expense of the long run relationship. The theoretical problem with this conception is that these bad profits aren’t really profits.

The customer relationship is an asset and by irritating customers you are destroying this for a short term cash infusion. You are just depleting your assets not making a profit. (It is conceptually the same as selling factory machines for less than they are worth, you generate immediate cash but incur a long term loss.) The only reason to call these profits is because of financial accounting rules which (for reasons that aren’t totally crazy) don’t recognize marketing assets.

A marketer’s job is to value customer assets. Reichheld highlights this but omits a key point. Recognizing bad profits aren’t profits at all if they merely destroy customer relationships I think is necessary to convincingly argue against bad profits.

Read: Fred Reichheld and Rob Markey, The Ultimate Question 2.0: How Net Promoter Companies Thrive In A Customer-Driven World, 2011, Harvard Business Review Press, Boston, MA