Our last blog showed the compelling economic reasons why almost everyone wants to build a loyal customer base. However, while everyone may want customer loyalty, store owners would be advised to step back and ask a few questions before they initiate a campaign to make customers more loyal. Building loyalty requires more than an affinity card and, while loyalty is always a good thing, the return on investment on a loyalty campaign is not always guaranteed.

Question 1: What’s the Goal?

In its most basic form, the goal of loyalty programs is to grow the bottom line. But there are many different ways that greater customer loyalty can make that happen. Briefly put, in addition to repeat sales (see Economics of Customer Loyalty for details), we expect heightened profitability due to:

• the ability to sell complimentary and supplementary products   (share of wallet)
• the lower cost of servicing the account
• the potential for referral sales
• the premium that customers would pay to switch suppliers

The potential to realize these gains is not the same for everyone. For example, given its physical footprint, a small community pharmacy does not have the same capacity as a big-box pharmacy to add complementary products and services. Similarly, stores that maintain a social networking site may be in a better position than others to promote featured items and to spur referral sales.

The same is true of the cost savings associated with loyalty programs. Some programs reduce costs by enabling the pharmacy to reduce their advertising expenditures. For example, they may find that if they can get loyal customers to come to the store weekly out of habit, they can replace weekly flyers with in-store specials. Other pharmacies might replace their radio or TV advertising with social networks or direct email with loyal customers who agree to online contact. Others still could use statistical analysis of customer data to identify which products or consumers respond best to which form of advertising: the amount spent doesn’t necessarily decrease, but the enhanced targeting may increase the productivity of that expenditure.

As you can see, you really cannot begin to map out a customer retention strategy until you know, in detail, how you expect loyalty to increase your profitability.

Question 2: Sustaining Loyalty – What’s In It for Them?

Loyalty is a reward that customers give us in return for something we give them. Many believe that consistent performance of whatever you did to win the first sale is the key to customer loyalty. This is only partially true. Consistency is a necessary condition for loyalty but it is not, by itself, sufficient to make it happen.

Loyalty requires your customer to have three sentiments toward your store and its marketing:

1. I get it. I know what you offer.
2. I want it. I understand how what you offer would improve my welfare.
3. I cannot get it anywhere else. No one else can do a better job than what you do for me.

If you cannot get past questions 1 and 2, then loyalty will be a moot point since you’ll never make a first sale on anything other than a discounted price. If you do get past those questions, the new focal issue is “Why do they stay with me?” The answer to which is, “because they cannot get it any other place.”

In other words, the goal is not to “buy” loyalty with cards or other promotional giveaways. Those things can all be done by anyone who has deep pockets (i.e., the customer can get it any/everywhere else). Instead, we need to build on our status as the incumbent seller to do things that competitors could never know to do because they don’t currently know/sell to that customer.

Thus, the second key consideration is what new services or benefits will you be able to give loyal customers that cannot be offered by someone trying to win an initial sale from them.

Question 3: Is It Really Worth It?

Loyalty management takes a lot of work. To be frank, not all customers are worth the effort. No matter how well you do things, there will always be some customers who cherry-pick specials and want nothing more than low price. And sometimes you can’t move them to higher ground because it isn’t that they don’t want more, it’s that they cannot afford more or simply do not need more.

This means the potential to grow your loyal customer base is finite. It also means these less-loyal buyers may be substantially different – in character or in needs – from your current loyal customers. In these cases, trying to increase loyalty will require doing something different from what you now do, and doing it for a customer who is unlikely to reward your efforts.

Thus, the third key consideration is who you expect to become more loyal. This consideration gains even more significance if you combine it with question 2 (above) and ask “Will this work with them?”

Getting Intimate

As you can see, there is nothing automatic about customer loyalty. The rewards don’t necessarily merit the inputs and effort required. However, reviewing these considerations will save you from making well-intentioned but inappropriate decisions and will raise the likelihood of success if you feel that greater customer loyalty is worth pursuing.

The common motivation for loyalty management is the drive for a recurring source of revenue, largely through repeat purchase. However, if “more of the same” is your sole motivation, you may be missing out on at least four other sources of revenue enhancement (see Figure 1) and may, in fact, make it harder to secure repeat purchases.

Figure 1

Does Loyalty Beget Loyalty?

A basic assumption of loyalty management is “No one ever switched suppliers for an offer that is only just as good.” Challengers always have to spend more or accept lower prices in order to lure satisfied customers. Thus, the incumbent firm has a de facto cost advantage against challengers and, therefore, the capacity to outspend or under-price challengers. Figure 2 shows the comparative revenue and expense flows facing a challenger.

Figure 2

The only time a competitor will be willing to outspend you is if they feel they have an intrinsically better product and are using promotional activity to generate trial: presumably, the customer tries their product and, realizing it is better than yours, stays with the competitor after the promotion is discontinued. Under any other circumstance, the challenger will hold the sale only for as long as they sustain the price promotion. 

Will your loyalty beget more loyalty? It really depends on whether your product really is better. If not, you are living off legacy demand and are ripe for attack. My advice: use your cost advantage to shore up your quality of product and service, then make sure that customer attention is focused on that point of difference.

Greater Market Share or Greater Share of Wallet?

If you are in a market of relatively fixed size, then the only way you can sell more of your traditional product is by stealing customers from your competition. Often, this triggers price or marketing wars that may enable you to achieve greater sales volume, but at lower and lower margins.

Loyalty management provides another growth vehicle: instead of selling to more customers, you concentrate on selling more things to the customers you already have. This is very much like the growth strategy of “product development” that was discussed in “Deciding A Growth Direction.”

There are two reasons why loyalty managed businesses win share of wallet.

First, it enables them to sell more complete “total solutions” to complex problems, which in turn creates differentiation that also supports their price realization.

Second, the cultivation of a customer requires managing them through three stages of “relationship development”: awareness, trial and adoption. The length of time it takes to move a customer through these three stages is termed “the sales cycle”: the longer the sales cycle, the longer the time that must pass between your initial spending to create awareness and your realization of a return on that spending (adoption). However, since customers who already buy one item from you have already moved through the awareness and trial stage, directing new product introductions to them involves a shorter sales cycle and a lower need to spend money to generate awareness and trial.

However, neither of these outcomes occurs naturally. Customers must be educated to see related products as part of a solution or they may never make the bridge from seeing you as selling a bundle of components to seeing you as someone who can “blend” components (i.e., make suggestions or packages) into a solution.

Growing Revenues or Decreasing Costs?

Loyalty management is not just about selling more. It is also about spending less.  A lot less. In fact, depending upon which study you read, it is estimated that it costs 3 to 8 times as much money to acquire a new customer as it does to retain and service an existing customer!

Part of the reason you spend less is because you are securing the greater share of wallet with a single marketing effort instead of a separate campaign for each product. Thus the cost per dollar of sales is lower.

However, savvy loyalty marketers also realize that their deeper relationship may enable them to re-engineer how they market to their customers. For example, you may be able to stop advertising to them and instead reach them via email or other form of direct response marketing.  Challengers would not be able to identify and reach your loyal customers with the same precision since they do not know who they are. In addition, you might even be able to offer them discounts for pre-paying or reward them for sustained purchasing over time. Consumers would be reluctant to accept such offers from challengers (lacking a relationship) since customers may not feel secure the challenger merits their trust.

Are Your Customers Brand Champions?

Satisfied customers are often said to be your best advertisement or best sales person. Their recommendations are seen as more credible since they are not being paid to endorse your products or services. However, customers can also serve in a more active selling role when they generate referral business. 

The reason this happens is not just because the customer is satisfied. The more comprehensive “solution” generated by your share-of-wallet efforts can give customers content to share with others. Moreover, if you find creative ways to spend some of your lower costs on, say, “random acts of supplier kindness,” you raise the standard that competitors must meet to sustain their own accounts.

Customer Inertia

It is estimated that two thirds of all accounts that switch suppliers do not switch out of attraction to a competing brand. They switch because they are dissatisfied with their existing supplier. The reason for this reluctance to change is that customers are creatures of habit and, lacking significant inducement, it is simply easier for them to stay with existing relationships and behaviours.

This implies that the more involved the relationship, the greater the likelihood of customer inertia. This is why we would have to be very upset with a bank before we’d move accounts – we would have to have new cheques printed, make new direct deposit and direct payment arrangements and so on. Is there a way you can interweave your business into your customers’ lives in the same way?

Realize the Potential

Figure 3 shows the profit impact of a one percent improvement in customer loyalty in comparison to a one percent change in price, cost or volume via customer acquisition. As you can see, the gains are enormous and are highest for service-intensive businesses. However, these gains assume that you are securing the benefits of all five sources of increased performance. The potential is there, but you must actively and aggressively go after them.

Figure 3

For more on customer loyalty: