Lovelock PPT Chapter 12

Chapter 12:
Managing
Customer
Relationships and
Building Loyalty
Slide © 2007 by Christopher Lovelock and Jochen Wirtz Services Marketing 6/E Chapter 12 - 1
Overview of Chapter 12
 The Search for Customer Loyalty

 Understanding the Customer-Firm Relationship
 The Wheel of Loyalty
 Building a Foundation for Loyalty
 Creating Loyalty Bonds
 Strategies for Reducing Customers Defections
 CRM: Customer Relationship Management
The Search for Customer Loyalty
Why Is Customer Loyalty Important to
a Firm’s Profitability?
 Customers become more profitable the longer they
remain with a firm:
 Increase purchases and/or account balances
― Customers/families purchase in greater quantities as they grow
 Reduced operating costs
― Fewer demands from suppliers and operating mistakes as customer
becomes experienced
 Referrals to other customers
― Positive word-of-mouth saves firm from investing money in sales
and advertising
 Price premiums
― Long-term customers willing to pay regular price
― Willing to pay higher price during peak periods
How Much Profit a Customer
Generates Over Time (Fig 12.1)
(Year 1=100)
350 –
300
250
200
150
100
50
0
Year 1 Year 2 Year 3 Year 4 Year 5
Credit card Industrial laundry Industrial distribution Auto servicing

Source: Based on reanalysis of data from Fredrick R. Reichheld and W. Earl Sassar, Jr., “Zero Defections: Quality Comes from Services,” Harvard
Business Review 68 (Sep.-Oct. 1990), pp. 105–111.
Why Customers Are More Profitable
Over Time (Fig 12.2)
Profit from price

premium
Profit from references
Profit from reduced

op. costs
Profit from increased
usage
Base Profit/Loss
Loss
1 2 3 4 5 6 7
Year
Source: Why Are Customers More Profitable Over Time from Fredrick R. Reichheld and W. Earl Sassar, Jr., “Zero Defections: Quality Comes from
Services,” Harvard Business Review 73 (Sep.–Oct. 1990): p. 108.
Assessing the Value of a
Loyal Customer (1)
 Must not assume that loyal customers are always more

profitable than those making one-time transactions
 Costs
― Not all types of services incur heavy promotional
expenditures to attract a new customer
― Walk-in traffic more important at times
 Revenue
― Large customers may expect price discounts in return for
loyalty
― Revenues don’t necessarily increase with time for all types
of customers
Assessing the Value of a
Loyal Customer (2)
 Profit impact of a customer varies according to stage of

service in product life cycle
 For example referrals and negative word-of-mouth have a
higher impact in early stages
 Tasks
 Determine costs and revenues for customers from different market
segments at different points in their customer lifecycles
 Predict future profitability
Measuring Customer Equity:
Lifetime Value of Each Customer
 Acquisition revenues less costs

 Revenues (application fee + initial purchase)
 Costs (marketing + credit check + account set up)
 Projected annual revenues and costs
 Revenues (annual fee + sales + service fees + value of referrals)
 Costs (account management + cost of sales + write-offs)
 Value of referrals
 Percentage of customers influenced by other customers
 Other marketing activities that drew the firm to an individual’s attention
 Net Present Value
 Sum anticipated annual values (future profits)
 Suitably discounted each year into the future
Gap Between Actual and
Potential Customer Value
 What is current purchasing behavior of customers in

each target segment?
 What would be impact on sales and profits if they
exhibited ideal behavior profile of:
 (1) buying all services offered by the firm,
 (2) using these to the exclusion of any purchases from competitors,
 (3) paying full price?
 How long, on average, do customers remain with firm?
 What impact would it have if they remained customers
for life?
Understanding the Customer-
Firm Relationship
Relationship Marketing (1)
 Transactional Marketing
 One transaction or a series of transactions does not necessarily
constitute a relationship
 Requires mutual recognition and knowledge between the parties
 Database Marketing:
 Includes market transaction and information exchange
 Technology is used to
― (1) identify and build database of current and potential customers
― (2) deliver differentiated messages based on customers’
characteristics
― (3) track each relationship to monitor cost of acquiring that
customer and lifetime value of resulting purchases
Relationship Marketing (2)
 Interaction Marketing:
 Face-to-face interaction between customers and supplier’s
representatives
 Value is added by people and social processes
 Increasing use of technologies make maintaining meaningful
relationships with customers a marketing challenge
― For example, self-service technology, interactive websites, call
centers
 Network Marketing:
 Common in b2b context where companies commit resources to
develop positions in network of relationships with stakeholders and
relevant agencies
Relationships with Customers
(Fig 12.1)
Type of Relationship between the Service

Organization and Its Customers
Nature of Service Membership No Formal Relationship
Delivery Relationship
Continuous Cable TV Radio station
Insurance policy Police
College enrollment Lighthouse
Discrete Transactions Subscriber phone Pay phone
Theater subscription Movie theatre
Warranty repair Public transport
The Wheel of Loyalty
The Wheel of Loyalty (Fig 12.4)
3. Reduce 1. Build a
Churn Drivers Foundation
for Loyalty
 Conduct churn diagnostic
 Segment the market
 Address key churn drivers
 Be selective in acquisition
Enabled through:  Implement complaint
 Frontline staff handling and service  Use effective tiering
 Account recovery Customer of service.
managers  Increase switching  Deliver quality
 Membership costs
Loyalty service.
programs
 CRM
Systems 2. Create Loyalty
Bonds
 Build higher  Deepen the
level bonds relationship
 Give loyalty
rewards
Building a Foundation for Loyalty
Customer Needs and
Company Capabilities
 Identify and target the right customers
 How do customer needs relate to operations elements?

 How well can service personnel meet expectations of different
types of customers?
 Can company match or exceed competing services that are
directed at same types of customers?
 Should result in a superior service offering in the eyes

of those customers who value what firm has to offer
Searching for Value—Not Just
Volume
 Focus on number of customers served as well as value of

each customer
 Heavy users who buy more frequently and in larger volumes are
more profitable than occasional users
 Avoid targeting customers who buy based on lowest price
• Firms that are highly focused and selective in their

acquisition of customers grow faster
• “Right customers” are not always high spenders
 Can come from a large group of people that no other supplier is
serving well
• Different segments offer different value
Effective Tiering of Service
The Customer Pyramid (Fig 12.5)
Good Relationship
Customers Which segment sees high value in
our offer, spends more with us over
time, costs less to maintain, and
Platinum
spreads positive word-of-mouth?
Gold
Which segment costs us time,
Iron effort, and money, yet does not
provide return we want? Which
segment is difficult to do
Lead business with?
Poor Relationship
Customers Source: Valarie A Zeithaml, Roland T Rust, and Katharine N. Lemon, “The Customer Pyramid: Creating
and Serving Profitable Customers,” California Management Review 43, no. 4, Summer 2001, pp.118–
142.
The Customer Satisfaction
Loyalty Relationship (Fig 12.7)
Apostle
100
Zone of Affection
Loyalty (Retention)
80
Zone of Indifference Near Apostle

60
40 Zone of Defection
20
Terrorist 0
1 2 3 4 5
Very Dissatisfied Neither Satisfied Very
Dissatisfied Satisfied
Source: Adapted from Thomas O. Jones and W. Earl
Satisfaction
Sasser, Jr., “Why Satisfied Customers Defect,” Harvard
Business Review, November-December 1995, p. 91.
Creating Loyalty Bonds
Strategies for Developing Loyalty
Bonds with Customers (1)
 Deepening the relationship

 Bundling/cross-selling services makes switching a major effort
that customer is unwilling to undertake unless extremely
dissatisfied with service provider
 Customers benefit from consolidating their purchasing of various
services from the same provider
 See Research Insights 12.2: How do customers see relational
benefits?
― One-stop-shopping, potentially
higher service levels,
higher service tiers, etc.
 Reward-based Bonds
 Incentives that offer rewards based on frequency of purchase, value
of purchase, or combination of both
 Financial bonds
― Discounts on purchases, loyalty program rewards (e.g., frequent flier
miles), cash-back programs
 Non-financial rewards
― Priority to loyalty program members for waitlists and queues in call
centers: higher baggage allowances, priority upgrading, access to
airport lounges for frequent flyers
 Intangible rewards
― Special recognition and appreciation, tiered loyalty programs
 Reward-based loyalty programs are relatively easy to copy and rarely
provide a sustained competitive advantage
 Social Bonds
 Based on personal relationships between providers and customers
 Harder to build and imitate and thus, better chance of retention in
the long term
 Customization Bonds
 Customized service for loyal customers
― e.g., Starbucks
 Customers may find it hard to adjust to
another service provider who cannot
customize service
Source: PAL Library; Asset ID: AAFHKTO0
 Structural Bonds
 Mostly seen in b2b settings
 Stimulate loyalty through structural relationships between provider
and customer
― Joint investments in projects and sharing of information, processes
and equipment
 Can be seen in b2c environment too
― Airlines—SMS check-in, SMS e-mail alerts for flight arrival and
departure times
 Difficult for competition to draw customers away when they have
integrated their way of doing things with existing supplier
Creating Customer Bonds by Membership
Relationships and Loyalty Programs (1)
 Transform discrete transactions into relationships

 Discrete transactions: Each usage involves payment to service
supplier by an essentially "anonymous" consumer
 Membership cards: Capture transactions, communicate customer
preferences to frontline
 Loyalty reward programs increasingly used by all businesses in
response to competition
― Frequent fliers program—rewards dominated in miles
 Customers may get frustrated with reward programs
― For example: Feel excluded from rewards program because of low
balances, rewards seen as having little value, cumbersome
redemption process
 Don’t lose sight of broader goals of offering high service quality,
nor allow service to other customers to deteriorate
Create Customer Bonds by Membership
Relationships and Loyalty Programs (2)
 How customers perceive reward programs

 Brand loyalty versus deal loyalty
 Buyers value rewards according to:
― Cash value of redemption award
― Range of choice among rewards
― Aspirational value of rewards
― Amount of usage required to obtain award
― Psychological benefits of belonging to reward program
 Timing
― Send customers periodic updates on account status and
progress towards particular milestones
Strategies for Reducing
Customer Defections
Analyze Customer Defections and
Monitor Declining Accounts
 Understand reasons for customer switching

 Churn diagnostics common in mobile phone industry
 Analysis of data warehouse information on churned and declining
customers
 Exit interviews:
― Ask a short set of questions when customer cancels account;
in-depth interviews of former customers by third party agency
 Churn Alert Systems:
― Monitor activity in individual customer accounts to predict
impending customer switching
― Proactive detention efforts—send voucher, customer service
representative calls customer
What Drives Customers to Switch?
(Fig 12.9)
Service Failure/Recovery Value Proposition
Core Service Failure Pricing
• Service Mistakes • High Price
• Billing Errors • Price Increases
• Service Catastrophe • Unfair Pricing
Service • Deceptive Pricing
Service Encounter Failures
• Uncaring Switching Inconvenience
• Impolite • Location/Hours
• Unresponsive • Wait for Appointment
• Unknowledgeable • Wait for Service
Response to Service Failure

• Negative Response Competition
• No Response • Found Better Service
• Reluctant Response
Others
Involuntary Switching Ethical Problems
• Customer Moved • Cheat • Unsafe
• Provider Closed • Hard Sell • Conflict of Interest
Source: Adapted from Susan M. Keaveney, “Customer Switching Behavior in Service Industries: An Exploratory Study,” Journal of Marketing 59 (April 1995), pp. 71–82.
Addressing Key Churn Drivers
 Delivery quality
 Minimize inconvenience and nonmonetary costs
 Fair and transparent pricing
 Industry specific drivers
 Cellular phone industry: Handset replacement a common reason
for subscribers discontinuing services—offer proactive handset
replacement programs
 Reactive measures
 Save teams: Specially trained call center staff to deal
with customers who want to cancel their accounts
 Be careful about how save teams are rewarded
Other Ways to Reduce Churn
 Implement effective complaint handling and

service recovery procedures
 Increase switching costs
 Natural switching costs
― For example, changing primary bank account—many
related services tied to account
 Can be created by instituting contractual penalties for
switching
― Must be careful not to be perceived as holding customers
hostage
― High switching barriers and poor service quality likely to
generate negative attitudes and word of mouth
CRM: Customer Relationship
Management
Integrated Framework for
CRM Strategy (Fig 12.10)
Strategy Value Creation Multi-Channel Performance

Development Integration Assessment
Process Process Process Process
Information Management Process
Source: Adapted from: Adrian Payne and Pennie Frow, “A Strategic Framework for Customer
Relationship Management,” Journal of Marketing 69 (October 2005): pp.167–176.
CRM Strategy Development
 Strategy Development
 Assessment of business strategy
 Business strategy guides development of customer strategy
CRM Strategy: Value Creation
 Value Creation
 Translates business and customer strategies into specific value
propositions for both customers and firm
― Customers benefit from priority, tiered services, loyalty
rewards, and customization
― Company benefits from reduced customer acquisition and
retention costs, and increased share-of-wallet
 Dual creation of value: Customers need to participate in CRM to
reap value from firm’s CRM initiatives
Integrated Framework for CRM
Strategy: Multi-Channel Integration
 Multi-Channel Integration
 Serve customers well across many
potential interfaces
 Offer a unified interface that delivers
customization and personalization
Strategy: Performance Assessment
 Performance Assessment
 Is CRM system creating value for key
stakeholders?
 Are marketing and service standard objectives
being achieved?
 Is CRM system meeting performance
standards?
Strategy: Information Management
 Information Management
 Collect customer information from all
channels
 Integrate it with other relevant information
 Make useful information available to the
frontline
 Create and manage data repository, IT
systems, analytical tools, specific application
packages
Common Objectives Of CRM Systems (1)
(Service Perspectives 12.3)
 Data collection
 Customer data such as contact details, demographics, purchasing
history, service preferences, and the like
 Data analysis
 Data captured is analyzed and categorized
 Used to tier customer base and tailor service delivery accordingly.
 Sales force automation
 Sales leads, cross-sell, and up-sell opportunities can be effectively
identified and processed
 Entire sales cycle from lead generation to close of sales and after-
sales service can be tracked and facilitated through CRM system
Common Objectives Of CRM Systems (2)
(Service Perspectives 12.3)
 Marketing automation
 Mining of customer data enables the firm to target its market
 Goal to achieve one-to-one marketing and cost savings, often in the
context of loyalty and retention programs
 Results in increasing the ROI on its marketing expenditure
 CRM systems also enable the assessment of the effectiveness of
marketing campaigns through the analysis of responses
 Call center automation
 Call center staff have customer information at their fingertips and
can improve their service levels to all customers
 Caller ID and account numbers allow call centers to identify the
customer tier the caller belongs to, and to tailor the service
accordingly
― For example, platinum callers get priority in waiting loops
Common Failures in
CRM Implementation
 Service firms often equate installing CRM systems with having

a customer relationship strategy
 Challenge of getting it right with wide-ranging scope of CRM
 Common reasons for failures
 Viewing CRM as a technology initiative
 Lack of customer focus
 Insufficient appreciation of customer lifetime value (CLV)
 Inadequate support from top management
 Failure to reengineer business processes
 Underestimating the challenges in date integration
Key Issues in Defining a
Customer Relationship Strategy
 How should our value proposition change to increase

customer loyalty?
 How much customization or one-to-one marketing and
service delivery is appropriate and profitable?
 What is incremental profit potential of increasing share-of-
wallet with current customers? How much does this vary by
customer tier and/or segment?
 How much time and resources can we allocate to CRM right
now?
 If we believe in customer relationship management, why
haven’t we taken more steps in that direction in past?
 What can we do today to develop customer relationships
without spending on technology?
Summary of Chapter 12: Managing Customer
Relationships and Building Loyalty (1)
 Customer loyalty as an important driver of profitability for

service firms so firms need to
 Assess value of loyal customer
 Narrow gap between actual and potential customer value
 To understand the customer-firm relationship, firms should

establish a relationship with customers by creating
“membership” relationships
 Four types of marketing

 Transactional marketing
 Database marketing
 Interaction marketing
 Network marketing
 Wheel of Loyalty shows how firms can:

 Build a foundation of loyalty
 Create loyalty bonds
 reduce churn drivers
 Building a foundation of loyalty involves:

 Good fit between customer needs and capabilities
 Searching for value, not just volume
 Tiering services effectively
 Obtaining customer satisfaction through service quality
 Customer loyalty bonds include:

 Reward-based bonds
 Social bonds
 Customization bonds
 Structural bonds
 Bonds can also be created through membership relationships
and loyalty programs
 Strategies for reducing customer defections include:
 Analyzing customer defections and monitoring declining accounts
 Addressing key churn drivers
 Implementing effective complaint-handling and service recovery
procedures
 Increasing switching costs
Relationships And Building Loyalty (4)
 Customer relationship management (CRM) is a whole process

by which relations with customers are built and maintained.
 An integrated CRM system includes
 Strategy development process
 Value creation process
 Multichannel integration process
 Performance assessment process
 Cresting a successful CRM program requires understanding
common failures in CRM implementation and knowing how to
get it right

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Chapter 12:

 The Search for Customer Loyalty

Credit card Industrial laundry Industrial distribution Auto servicing

Profit from price

Profit from reduced

 Must not assume that loyal customers are always more

 Profit impact of a customer varies according to stage of

 Acquisition revenues less costs

 What is current purchasing behavior of customers in

Type of Relationship between the Service

 Identify and target the right customers

 How do customer needs relate to operations elements?

 Should result in a superior service offering in the eyes

 Focus on number of customers served as well as value of

• Firms that are highly focused and selective in their

• Different segments offer different value

Zone of Indifference Near Apostle

 Deepening the relationship

Source: PAL Library; Asset ID: AAFHKTO0

 Transform discrete transactions into relationships

 How customers perceive reward programs

 Understand reasons for customer switching

Response to Service Failure

 Implement effective complaint handling and

Strategy Value Creation Multi-Channel Performance

Information Management Process

 Service firms often equate installing CRM systems with having

 How should our value proposition change to increase

 Customer loyalty as an important driver of profitability for

 To understand the customer-firm relationship, firms should

 Four types of marketing

 Wheel of Loyalty shows how firms can:

 Building a foundation of loyalty involves:

 Customer loyalty bonds include:

 Customer relationship management (CRM) is a whole process

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