Lesson of a Ponzi Scheme: Know Your Customer

Scott Rothstein needed a big financial institution to keep his scam going. TD Bank should have managed its risks better.

The lawsuits against those companies, in fact, weren’t real. Rothstein fabricated the cases using forged documents and elaborate ruses, such as having an accomplice pose as a bank officer.

The Ponzi scheme fell apart just after Halloween in 2009 when Rothstein couldn’t lure enough new investors to pay earlier ones.  After fleeing to Morocco, Rothstein returned to the United States. Two years ago, he pleaded guilty to five federal counts of racketeering, money laundering and wire fraud and is now serving a 50-year prison sentence.

Beware Having the Wrong Customer
The big lesson that TD Bank has had to learn from this messy situation is the importance of knowing your customer and understanding their business. Just because a customer is large doesn’t mean you should be doing business with them.

First, there’s the instability inherent in relying on one big account. For example, say a big customer pulls an order and you fall short of your plan for the year.That could lead to your company having to cut expenses, lay people off, cut executive and employee pay or all three. Big customers also have a way of using their size to justify slow payments, changes in delivery terms or renegotiated prices.

Some entrepreneurs build their company around keeping that one big customer happy. Then, however, they take resources and customer service away from smaller accounts that together provide more diversified revenue.

Some organizations start to chase revenue that creates financeable receivables, instead of chasing profitable customers. If that large customer suddenly turns away, it effectively destroys the business’s working capital.

Cutting Your Customer Risks
Here’s are some risk management tips about how your company should build sound business relationships with potential customers:

1) Know your potential customer base and your customer’s industries and figure out what factors would cause a customer not to pay. If you don’t know if your customers are close to bankruptcy or have other financial trouble, you’ve got a problem. It’s wise to have credit checks on some of your larger accounts.

2) Establish your company as an organization needed by your customers, not merely a “nice to have.” Build yourself into your customer’s supply by creating various kinds of stickiness to make it harder for the customer to leave you. Think of supplying the one essential part that their largest-earning product can’t do without, for instance.

3) Look hard at your contracts and the length of engagement. Both can provide good opportunities to mitigate risk. If a customer has contracted with you over a longer time period or has kept buying from you even when the economy has turned sideways, you’ve got a bit less to worry about.

4) Diversify within a customer as soon as possible. Don’t tie your relationship to any single contact or buyer. You need multiple champions inside a client company who can be counted on to advocate for you. You might consider selling multiple products and services to different units of a large customer rather than always selling into the same silo.

5) Most importantly, focus on profitability rather than revenue. Revenue can be all-consuming for a small company. Measuring the profitability of a relationship — the real value created for your business — will in the long run serve you best. The risk you take by catering to a huge primary customer should be rewarded with greater profitability from that account.

John Bugalla is a principal with ermINSIGHTS and Kristina Narvaez is president and CEO of ERM Strategies LLC.


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