As long as 50 years ago, writers like Theodore Levitt in his seminal paper about marketing myopia pointed out that ‘the purpose of business is to get and keep a customer’. By turning our attention to customers we can clarify how a business makes money, illustrated by Figure 7.3.
CRM theory explicitly recognizes the economics of customers over the lifetime of their contact with the business. Acquisition is expensive and usually loss-making; it is hard to attract new customers. High retention rates are usually crucial for long-term profitability; repeat customers usually cost less to service and buy more. This is not always so, but the core principles remain sound. The point about CRM is that it focuses the business on managing these economics, eventually leading to a changed mentality: measure profit by customer not by product. Sadly this self-evident truth can be hard to find in practice. The problem lies not just in departmental politics but also with technology and data. According to Forrester, while 98 per cent of companies recognize the value of an accurate single-customer view, only 2 per cent claimed to have built one successfully. Think of the task facing, say, a retail bank. It needs to manage data acquired from literally around the world, run its day-to-day applications and remain compliant with complex, internationally varied regula-tions. To do this cost-effectively is not simple. It is only today that
Table 7.1 CRM approach steps
Critical area Activity
Corporate governance CRM strategy and value proposition Organizational alignment Business case and ROI
Budget process management Change management Capabilities and risk assessment Implementation road map Development of metrics Process change
Customer data integration and data
ownership Prioritization of company initiatives
Customer needs analysis Internal stakeholder assessment
Technology implementation Senior executive and opinion leader buy-in
applications and data technologies are enabling leading companies to build a virtual, single-customer view and establish lifetime value figures. This was not possible, for instance, in retail banking even as recently as 2003.
Why is loyalty profitable? Fred Reicheld (1996) of consultants Bain
& Co. has set out clearly the link between loyalty and profitability.
Table 7.2 illustrates the point.
The table examines the relative profitability for a company that improves its retention rates from 90 per cent to 95 per cent over seven years. The retention rate is the percentage of customers at the start of the year, who remain with the company at the end of the year. The figures compare the situation of 100 customers over a seven-year period. Each customer costs an average of £30 to recruit. Each customer that leaves has to be replaced, at cost to the company. Each customer is worth £10 per annum in gross margin. Net present value calculations are ignored for the sake of simplicity.
In other words, a 5 per cent increase in customer retention leads to a 45 per cent increase in cumulative profit over the seven-year period.
Reicheld found that a small increase in retention rate had a hugely disproportionate effect on profit in every sector examined. Most spec-tacular of all was the credit card industry, where a 5 per cent increase
Customer profitability zone
Revenue − costs No of
customers
Retention Acquisition
Figure 7.3 Customer economics in CRM
in customer retention led to a profit improvement of 125 per cent! This highlights the importance of acquisition costs on profitability. One major financial services company found the average acquisition cost per customer for loans was £280. Acquisition costs per customer in credit cards are typically £50 or more. In insurance they are often over
£100. Clearly, the more customers that can be retained, the less costly acquisition activity.
Mature satisfied customers give more referrals. Referred prospects in turn convert at a higher rate than prospects recruited ‘cold’. In addition, most loyal customers buy more from you when they get to know you better. They are also less price-sensitive. Customers of a car dealer may start with a basic car service but loyal customers may move on to valeting, warranties, hire cars and so on as they get to know more of the dealer’s business and to trust them more.
These rules are not inviolate. Reinartz and Kumar (2002) actually found little or no evidence to suggest that customers who purchase
Table 7.2 The importance of customer loyalty 90 per cent retention
Yr 1 2 3 4 5 6 7
100 customers 3000 0 0 0 0 0 0
recruitment costs
Replacement costs 300 300 300 300 300 300
if 10 leave each year
Margin @ £10 per 1000 1000 1000 1000 1000 1000 1000
customer per year
Cumulative margin –2000 –1300 –600 +100 +800 1500 2200
The final cumulative profit of 100 customers at 90% retention is £2200 95 per cent retention
Yr 1 2 3 4 5 6 7
100 customers 3000 0 0 0 0 0 0
recruitment costs
Replacement costs 150 150 150 150 150 150
if 5 leave each year
Margin @ £10 1000 1000 1000 1000 1000 1000 1000
per customer per year
Cumulative –2000 –1150 –300 +650 1500 2350 3200
margin
The final cumulative profit of 100 customers at 95% retention is £3200.
Source: Tapp (2004).
steadily from a company over time are necessarily cheaper to serve, less price-sensitive, or particularly effective at bringing in new business. Sometimes short-term customers are very profitable but not worth chasing because they would not come back. Sometimes long-term customers are basically unprofitable. Table 7.3 illustrates the characteristics of some of these less profitable segments.
From a CRM point of view Reinartz and Kumar’s work is not bad news by any means. There is probably still some truth in their asser-tions about loyalty. The point is to manage each customer according to their profitability. A data-mining strategy using customer trans-action data is a sound approach that helps to identify who is prof-itable and who is not.
Customer management is not just about profitability; it is also about market leadership. Nowadays, to win the battle for market share and become market leader you have to win the battle for high-value customers. You have to win that segment of customers, be it 2,000, 50,000 or 100,000, that make all the difference. A study conducted by OglivyOne analysed 16,000 brands all over the world.
What they found is that in every market and every category, brands do not differ that much when it comes to the occasional buyer or when it comes to the average buyer. The difference between a market leader, the number two and number three is down to a very small group of high-value customers. A brand leader always finds ways to bond better with that small group. When very few customers decide on whether you gain market share or lose market share, the vital question is, ‘How does your company bond with them?’ This is the realm of CRM because it requires databases, data mining, customer analytics and campaign management.
Table 7.3 Some fickle customer segments
Segment name Description Marketing strategy
Strangers Customers who have no Identify early and do not invest loyalty and bring in no anything
profits
Butterflies Customers who are Milk them for as much as possible profitable but disloyal in the short time they are buying
from you
True friends Profitable customers who A softly-softly approach are likely to be loyal
Barnacles Highly loyal but not very Find out whether they have the profitable customers potential to spend more than
they currently do
Source: After Reinartz and Kumar (2002).
A second consideration in today’s world is that there are no product advantages any more. It is a world of product parity. There is no such thing as a product brand any more; every brand is a service brand. So customer experiences drive success, they drive brand equity, they drive the bottom line. Whether they want it or not, companies have to be customer-centric. What this actually means is that they have to deliver information about customers to everyone who is in touch with the customer, over the net, via the call centre or at the branch office.
CRM technologies are needed to provide the information at each touch point, 24 hours a day, 7 days a week. Technology and ideas alone do not move people. The technology is simply the enabler. You still need the carriages to move people from A to B. This is the marketing revolution.