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KEYPOINTS
Customer concentration is a hidden risk: A company's dependence on a few big buyers can hurt if those customers switch suppliers.
Diversify your risk: Spread your investments across companies with a healthy mix of customers.
Research is key: Check a company's filings to see how reliant they are on a single customer.
In our journey to building a winning stock portfolio, we focus heavily on identifying strong companies. Today, we'll discuss customer concentration risk and why it's crucial to consider a company's customer base before investing.
What is Customer Concentration Risk?
Imagine a company that relies on just a handful of customers for a significant portion of its revenue. If one or more of those key customers decides to switch suppliers, the company's sales and profits could plummet. This vulnerability is called customer concentration risk.
Examples:
Technology Suppliers: Several tech companies are heavily reliant on Apple. For instance:
Qorvo (QRVO):
Generates roughly 30% of its revenue from Apple (source: https://ir.qorvo.com/events-presentations)
Lumentum (LITE):
Over 20% of its revenue comes from Apple (source: https://investor.lumentum.com/overview/default.aspx)
Broadcom (AVGO):
Approximately 15% of its revenue is tied to Apple (sourceL https://investors.broadcom.com/company-information/events-presentations)
Retail:
Foot Locker (FL):
While Nike isn't their only supplier, it represents a significant portion of their sales according to industry reports (source: https://investors.footlocker-inc.com/ar)
Automation:
Symbotic (SYM):
A large portion of their revenue comes from Walmart, highlighting their customer concentration risk (source: https://ir.symbotic.com/news-events/events-presentations)
Government Contractors:
Palantir (PLTR):
Up to 50% of their revenue comes from U.S. government contracts, creating dependence on a single customer segment (source: https://investors.palantir.com/)
Why Does It Matter?
Here's why customer concentration is a red flag for investors:
Reduced Bargaining Power: When a company relies heavily on a few customers, those customers have more leverage to negotiate lower prices, squeezing the company's profit margins.
Vulnerability to Customer Disruption: If a key customer leaves, the company's revenue and stock price can take a major hit.
How to Find Customer Concentration Data:
For software companies, platforms like 6sense.com or builtwith.com can give you an idea of their customer base size.
In most cases, you can find this information directly in a company's financial filings. Look for investor presentations, quarterly reports, and 10-Ks. Companies are often required to disclose their customer concentration if it's a significant risk factor.
Remember: Diversification is key! By not allocating too much of your portfolio in companies with high customer concentration, you can build a more resilient portfolio less susceptible to sudden changes in customer relationships.
Stay tuned! In the next part of our series, we'll explore other risk factors to consider when selecting companies for your portfolio.
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