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In the UK, consumers are becoming more committed to their

relationship with their grocer and to loyalty schemes than they are to

any individual brand of soap powder, shampoo or prepared meals.

Traditional product brands, with their in-built bias towards adding

levels of value on functionality, features and attributes, fail to offer

customers the type of relationship that engenders brand loyalty. Such

brands are, to quote McKinsey & Co, losing ’their right to brand’ to the

new value chain leaders.

Building on the premise that all customers are not created equal, it’s

possible to offer insights about how companies can manage the customer

development process more effectively by seeking to brand the

relationship with customers at the organisation level.

The function of the customer development process is to build

relationships and retention strategies with preferred customers who

favour the organisation.

For each relationship to be of value to the customer, it should be

managed from a detailed knowledge of customer motivations, purchasing

styles and purchasing strategies.

Ted Levitt was one of the first management gurus to recognise the

importance of customer retention in the early 80s. Since then, it has

become the mantra of management consultants and business school

professors on both sides of the Atlantic. However, senior management has

been slower to adopt the principles of relationship management and to

develop customer retention strategies. The espoused wisdom that ’new is

sexy, existing is boring’ still dominates the thinking in many

boardrooms with rewards, bonuses and incentives designed to perpetuate

the quest for new customers. Of course, it’s not wrong to seek new

business with new customers, but it shouldn’t be done at the expense of

existing customers.

So, the customer development process is a question of balancing

priorities in marketing and selling budgets, resources and returns on

investments across new and existing customers. In a recent analysis of a

financial service company, budgeting priorities were heavily weighted

towards new customer acquisition at the expense of cross-selling and

customer retention.

On further analysis, the company found that less than 50 per cent of its

nationwide customer base was profitable and the 15 per cent or so of

customers that were very profitable had been loyal customers for many

years.

The logic of the argument for developing customer retention strategies

is pretty compelling. As vice-president of information management at

American Express, James van der Putten, says of customer spend: ’The

best customers outspend the others by ratios of 16-to-one in retailing,

13-to-one in the restaurant business, 12-to-one in airlines and

five-to-one in the hotel/motel business.’

The strategic question then becomes one of building market share through

customer acquisition and customer retention by seeking to increase

’share of customer’ spend. UK grocery retailers are currently engaged in

such a battle for market share and superior profits. In the past, the

battleground has been for market share gains through new customers

switching from more vulnerable competitors. Both Tesco and Sainsbury’s

have more than doubled their market shares over the past 15 years as a

result. Today, they are also competing for ’share of customer’ spend to

grow market share as market saturation is reached.

The customer development strategies needed to build share of customer

spend are fundamentally different to those of customer acquisition. The

Tesco Clubcard, the chosen mechanism for reward based upon consumer

spend, has directly contributed to Tesco’s market share gain by lifting

existing customer spend by more than 13 per cent. Since these retailers

share nearly half the same customers, this has led to a corresponding

reduction in average spend at Sainsbury’s and a consequential profit

reduction for the first time in more than 20 years.

But how should companies go about managing customer loyalty and

developing customer retention strategies?

There are three guiding principles to loyalty management:

1. Most customers buy on a portfolio basis

Loyalty is relative. In consumer markets, more than 95 per cent of

gasoline purchasers buy more than one brand, about 85 per cent of

customers shop at more than one grocery retailer and personal investors

will, on average, subscribe to three different financial services. The

same principle applies in business-to-business markets.

2. All customers are not created equal

Loyal customers are more profitable. Their profitability stems from

various cost savings within the organisation - due to more effective

customer service - and from the fact loyal customers tend to devote more

of their spend to preferred organisations and can act as a referral

source for new customers. These profit streams flow from a relatively

small number of customers. In the financial services, it is not unusual

for customer analysis to reveal that around 50 per cent (and sometimes

up to 85 per cent) of an organisation’s profits come from the top ten to

20 per cent of their customers. Heinz acknowledges that, in the UK,

about 40 percent of its net income comes from fewer than five million

households. In fact, core profits are generated from something less than

half this number of homes.

3. Loyalty is retention with attitude

It may come as something of a rude shock for customer development

managers to realise that not all their customers are as involved with

their products and services as they are. Car companies fret over the

fact that even if an owner is satisfied with his current model, the

chances are he will still buy a different brand next time round.

Financial services marketers used to joke that their customers were more

likely to get divorced than change bank accounts. That joke has now

fallen rather flat.

Our research across consumer and business markets suggests that an

organisation’s existing customer base can be divided broadly into four

groups, according to purchasing portfolio (the number of suppliers in

business markets or brands bought in consumer markets). It can also be

divided by degree of involvement (the company or brand relationship).

These four groupings are shown in the Diamond of Loyalty and have

designated names based upon their motivations and purchasing

behaviour.

Generally, both Loyals and Habituals are high-share customers as they

purchase from a narrow portfolio. They are also usually the most

profitable customers to have as both exhibit behavioural loyalty.

However, they have very different purchasing styles. Loyals are involved

in the purchase and seek to be involved in the relationship at some

level, while Habituals behave routinely and are fairly indifferent in

their choice. So indifferent, in fact, that theirs is a routine purchase

which is dependent upon presence rather than affinity. When a retailer

is out of stock or the purchase process is disrupted in other ways,

switching behaviours may occur and a stream of subsequent purchases is

lost until the competitor makes a similar mistake.

Because of the affinity that Loyals feel towards the company or brand,

switching in such circumstances is likely to be temporary until normal

services are resumed. It is even possible that their purchasing

decisions may be delayed - but, since loyalty is relative, it is more

likely that some degree of switching by Loyals will occur.

Both Variety Seekers and Switchers exhibit similar purchasing behaviour.

They buy products and services from a wide portfolio. They are low-share

customers and are usually less profitable. Again, they exhibit very

different purchasing motivations.

For example, Variety Seekers purchase for different usage occasions and

frequencies, according to their individual agendas. They are active in

their search for brands and services and proactively seek multiple

sourcing.

Switchers have neither affinity nor do they value presence, except on an

opportunistic basis. Switchers are interested in price deals and

discounts.

Their purchasing strategy is to get the best deal based purely on a

transaction basis.

In some industry sectors, such as home improvements, the overt business

strategy is based upon price being the main determinant of value.

According to the chief executive of one of the leading home improvement

stores in the UK, customer loyalty does not exist in this market. He

says: ’If you want loyalty, buy a dog.’ Research would seem to support

his view - three out of four customers, when questioned in-store,

experienced difficulty remembering which of three main home improvement

stores they were actually shopping in.

Viewed from a different strategic perspective, it may be that

competition based upon price deals encourages switching behaviour and

provides little reason for potentially loyal customers to develop an

affinity, or for latent Habituals to develop routines since they may be

attracted by the competitor’s most recent price incentives.

All in all, price-based competition should be avoided (unless the

organisation is structured for low-cost, no frills customer development)

and Switchers left for the competition to attract and serve to their

cost.

Of the four customer groupings described in the Diamond of Loyalty, the

behaviour of Variety Seekers is the most difficult to model both in

understanding their product and services requirements and in their

purchasing process, as each may vary considerably.

To effectively serve these customers, organisations will require both a

wide product range and a suitable relationship to engage them during

their purchasing deliberations.

Effective Loyalty Management

The principles of loyalty management imply that effective customer

development requires moving away from mass-marketing, where all

customers are treated as equal, and crass marketing, where new customers

are treated more equally than loyals. Loyalty management implies making

the existing customer base a priority and assigning resources on a

differentiated basis.

Essentially this means that high-share customers are supported in their

behaviour and beliefs with a package of benefits which befits their

estimated economic worth to the organisation while low-share customers

receive the reverse treatment.

In a sweeping reorganisation of its marketing function, American Express

turned itself into a customer management organisation. Each card member

is now assigned into a loyalty group, such as frequent business

travellers or high-value card members, so that they can be

differentially rewarded according to their patterns of transactions.

A corollary to differentiating your high-share customers is identifying

and trimming the tail of low-share customers. Most companies do not face

up to the prospect of letting such customers go. Such surgery should

probably be restricted to out-and-out Switchers. They are not committed

to either the organisation or its products and they purchase from a wide

portfolio of competitive suppliers. Since they shop around, their share

of spend on any preferred supplier is low and there is little prospect

of profitably altering this behaviour. Most management involved in

customer development can readily identify the 5 to 10 per cent of

customers who fall into this extreme category. Once identified, they can

be selectively rationalised and resources redirected.

Media advertising is a case in point where more resources are focused on

non-purchasers than purchasers in building customer relationships.

Lord Leverhulme said in the 1920s: ’I know half my advertising is

wasted; the problem is I don’t know which half.’ In the 90s, with media

fragmentation and cost inflation eroding declining advertising budgets,

it could be argued that perhaps as much as four-fifths of advertising

spend is now wasted. Broadly, this is because media planners cannot

readily identify the 20 per cent or so of high-share customers who

purchase around 80 per cent of brand volume.

Consequently, these consumers only receive about 20 per cent of the

brand’s advertising impressions since advertising spend correlates with

segment size. The remaining 80 per cent of advertising impressions are

spread across consumers who are medium-to-light buyers, those who are

disinterested and, worse still, the very large number who do not even

buy from the category.

To reverse this effect requires a new way of thinking about media

planning and expenditure goals on a product-by-product basis and at the

organisation level, since consumers will buy from a portfolio of the

organisation’s brands with varying degrees of involvement.

This article is adapted from Competing on Value, by Simon Knox,

professor of brand marketing at Cranfield School of Management, and Stan

Maklan, customer relationship management practice leader of the Computer

Sciences Corporation. The book is published by Financial Times Pitman

Publishing.