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Operations Management Best Practice

Financial Techniques for Building Customer Loyalty

by Ray Halagera

Executive Summary

  • Given that one of the three key determinants of customer loyalty is the total cost of owning a company’s product or using their service, financial techniques can play a significant role in building customer loyalty, and ultimately the company’s profitability.

  • Some of the financial techniques that can be used to build customer loyalty include:

    • discounting;

    • frequent buyer programs;

    • loyalty programs;

    • special terms for prepurchasing;

    • enhanced credit terms;

    • bundling of goods or services;

    • discounts on purchasing related goods or services.

  • Since all markets are not the same, not all financial techniques have the same impact across markets. Whether the market consists of consumer or business buyers is the biggest determinant of how effective a financial technique is in building customer loyalty.

  • Implementing a technique to build loyalty with customers may not have a short-term payoff, and in certain markets it can actually create problems that cost the company more than the increased profitability attributable to increasing the period of time the customer is retained.

Introduction

Every organization knows that in order for it to survive, let alone grow, it has to acquire and then retain profitable customers. And it is loyal customers that generate increasing profits for each additional year they are retained.

  • Acquiring new customers can cost five times more than retaining current customers.1

  • A 2% increase in customer retention has the same effect on profits as cutting costs by 10%.2

  • A 5% reduction in customer defection can increase profits by 25–85%.3

  • The customer profitability rate over the life of a retained customer tends to increase annually by up to 20%.4

  • Extensive and continuing research into customer loyalty has concluded that it is driven by the customer’s ongoing perception of value, which is a combination of:

    • what the customer receives;

    • how the product or service is sold, delivered, and supported;

    • how much the product or service costs—that is, the price or total cost of ownership.

Finance professionals can deploy a wide range of techniques that can impact the customer’s total cost of owning their company’s product or using their company’s service, which in turn impacts customer loyalty and ultimately the organization’s profitability. Not only do financial managers need to be aware of the many techniques under their control, but they also need to be aware of some of the problems, where relevant, that may be encountered in implementing a specific technique.

Two Provisos

First, a financial manager’s primary goal is to maximize the organization’s profitability by accounting, analyzing, and reporting the financial implications of actions taken or which it is proposed to take. And they are usually expected to make a recommendation based on their findings. Because many of the suggested financial techniques to increase customer loyalty have short-term benefits that may not cover the short-term costs, financial managers may be reluctant to recommend many of the techniques if they lose sight of the longer-term benefits of customer loyalty and subsequent long-term retention.

Second, not all markets and customers are the same, and, accordingly, not all financial techniques will have the same impact on building customer loyalty. The major determinant as to whether or not a specific financial technique will impact customer loyalty is whether the customer is in a consumer market or a business market.

In selling to a consumer market (business to consumer, or B2C), the market attributes include:

  • the value of a transactions is usually small;

  • the number of buyers is large;

  • the selling cycle is short;

  • the product, and even the service, can be mass-produced;

  • the selling effort is focused on the end user.

Selling to a business market (business to business, or B2B) requires taking into account attributes that include:

  • the value of transactions is usually larger than for B2C;

  • there are fewer buyers than in B2C;

  • the selling cycle can be long, complex, and involve an ongoing relationship between the seller and whoever is in charge of purchasing decisions;

  • the product or service often needs to be customized;

  • the selling effort is often directed toward a decision-maker who is not the end user.

The above attributes can render a technique for building customer loyalty in a B2C market inappropriate for a B2B market, and vice versa. These differences will be noted where appropriate.

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Further reading

Books:

  • Gitomer, Jeffrey. Customer Satisfaction is Worthless, Customer Loyalty is Priceless: How to Make Them Love You, Keep You Coming Back, and Tell Everyone They Know. Austin, TX: Bard Press, 1998.
  • Johnson, Michael D., and Anders Gustafsson. Improving Customer Satisfaction, Loyalty, and Profit: An Integrated Measurement and Management System. San Francisco, CA: Jossey-Bass, 2000.
  • Reichheld, Frederick F. Loyalty Rules: How Today’s Leaders Build Lasting Relationships. Cambridge, MA: Harvard Business School Press, 2003.
  • Reichheld, Frederick F, with Thomas Teal. The Loyalty Effect: The Hidden Force Behind Growth, Profits, and Lasting Value. Cambridge, MA: Harvard Business School Press, 2001.

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