Facts about customers and loyalty

Customer loyalty creates profit in three ways. This article was taken from the comprehensive ‘customer focus' section of Harvard ManageMentor, the professional development resource for CIMA members in CPD Solutions.

Studies show that the longer customers are loyal, the more profitable they become. Why? The answer has to do with what are known as the three Rs of customer loyalty.

The first R of customer loyalty is retention. An ongoing relationship with a customer creates a steady stream of revenue over time as the customer continues to buy products. The costs associated with marketing decline, and, in many cases, so do the costs of actually serving the customer who becomes familiar with the company, its product lines, and its procedures.

Loyal customers also generate related sales, the second R. The profit generated by selling new products and services to existing customers is greater than it is for selling to new customers. The forward-thinking company develops new products by listening to its loyal customers. Loyal customers are therefore more likely to buy because the new product has been designed to meet their needs, and because they have a degree of faith in the company already.

In fact, the original product may generate a minor profit compared to related sales over time. New sales to existing customers are less costly, because they require less marketing, no new credit checks, less paperwork, and less time. Furthermore, loyal customers are often less sensitive to price than new customers.

Positive referrals, the third R, are the best kind of marketing - and they're free! Positive customer referrals are vital to profit and growth. Research suggests that satisfied customers are likely to tell five other people about a good experience, while dissatisfied customers are likely to tell 11 other people about a bad one. From your own experience, you know that personal referrals carry much more weight than traditional marketing.

Internal customers

The three Rs also come into play when your job involves serving internal customers - other individuals, groups, or teams within the organisation. The longer a positive relationship lasts with an internal customer, the more you both accomplish together. As a long-term relationship with internal customers grows, the relationship becomes more and more effective, which in turn affects the company's profitability.

In a truly effective internal relationship, a synergy forms. Two groups within an organisation can work together to develop new products or serve a customer in increasingly innovative and creative ways. What's more, you don't have to work exclusively with external customers to know that favourable reports about your group create goodwill and positive expectations. A bad reputation creates negative expectations, decreased credibility, and ongoing friction with other groups. Free marketing or bad press? The choice you make is the key to your reputation and your bottom line.

Misguided marketing

If you imagine a typical marketing budget as a pie cut into ten slices, only one slice (10%) is devoted to maintaining current customers, while nine slices (90%) are devoted to seeking new customers.

'Various estimates place the cost to attract new customers at five or more times the cost of retaining existing ones.' James L. Heskett

Only a small fraction of a typical entire marketing budget is devoted to maintaining loyal customers.

Most companies today don't work very hard at developing a relationship with a long-term customer. They focus nearly all their energy and money on getting new customers. They promise low, introductory rates and sign-up incentives, and, of course, they spend millions on marketing and advertising and lose money on bad debts.

The reward structure within the company is often geared almost exclusively to luring new customers. The biggest incentives often go to employees who bring in new customers, not to those employees who work hard at keeping loyal internal and external customers satisfied.

Marketing budgets like these are driven by the misconception that if you want to make a profit, you must increase market share. This traditional marketing approach focuses on the four Ps - product, price, promotional activity, and 'place' (distribution channels) - and leads to the misguided concept that any customer is a good customer.

The HMM customer focus module also looks at targeting the right customers, how loyalty affects profitability, building employee capability, knowing the customer and delivering value.

May 2008

Back to Insight front page

What did you think of this article? Email tim.cooper@cimaglobal.com.