Financial Performance. Skander Esseghaier Koc University

Transcription

1 Customer Metrics and Their Impact on Financial Performance Skander Esseghaier Koc University

2 The Importance of Customers 2

3 The Gap Source:Ittner and Larcker Non-financial Performance Measures: What Works and What Doesn t, 3

4 The Profit Chain WHAT YOU GET FIRM VALUE Profit, Stock Price, Market Value Tobin s q, ROA, ROI, cash flow WHAT CUSTOMERS DO CUSTOMER PROFITABILITY Lifetime Value, Customer Equity Acquisition, Retention, Expansion WHAT CUSTOMERS FEEL CUSTOMER EXPERIENCE Satisfaction, Loyalty, Intentions WHAT YOU DO INTERNAL Marketing Programs RESOURCES Employees 4

5 Perceptual Customer Metrics Measures of Attitudinal & Behavioral Loyalty 5

6 Measurement of Loyalty Both in practice and in academic research, Loyalty has been measured at two levels: Attitudinal Loyalty - Repurchase intentions and intentions to recommend product to others Behavioral Loyalty - Repeat purchase frequency, share of category requirement, relative volume of purchasing, share of category wallet 6

7 Indicators of Attitudinal Loyalty Attitudinal Loyalty is indicated by an intention to perform a diverse set of g p specific firm behaviors that signal a motivation to maintain a relationship with a Intention to engage in repeat purchasing Repurchase Intention, Likelihood of Switching, Likelihood of Buying More Intention to engage in positive word of mouth Intention to recommend to others 7

8 Measure of Attitudinal Loyalty: Net Promoter Score (Reichheld 2003) Net Promoter Score is defined as the number of respondents answering 9 or 10 on a 10-points willingness-to-recommend scale, minus the percentage of respondents answering 0 through 6 Companies commonly get Net Promoter Scores that range from 10% to 16% The best companies get scores between 75% and 80% Popular with many companies in the US (Symantec, Intuit, WSJ) Jeffrey Immelt, CEO of General Electric, uses it in all of GE s divisions 8

9 Measure of Attitudinal Loyalty: Repurchase Intention & Likelihood to Switch This information comes from response to questions as part of routine surveys The next time you stay in a hotel, what is the probability that you will stay at each hotel that you consider as options? Hotel 1: Probability: Hotel 2: Probability: Hotel 3: Probability: bilit Hotel 4: Probability: Hotel 5: Probability: Likelihood of Next Purchase Current Purchase A B C A 70% 20% 10% 9

10 Measure of Behavioral Loyalty: Repeat Purchase Probability Repeat Purchase Probability is measured at the aggregate level (segment or entire customer base level). It measures the probability that a customer of the firm does repeat purchase with the firm This information comes from response to questions as part of routine surveys Which hotel did you stay in last? Current Purchase Percentage of Respondents whose Last Purchase was: A B C A 50% 15% 35% 10

11 Measure of Behavioral Loyalty: Repeat Purchase Frequency Repeat Purchase Frequency is the average number of times (purchase incidences) a purchase of the brand occurs over period of time ----x------x x--x---- -x-----x Versus ----x x x Versus - -x- -x-x-x- x x -x- -x

12 Measure of Behavioral Loyalty: Share of Category Requirement (SCR) Share of Category Requirement is the proportion of category volume (in units sales) accounted for by a specific brand or firm within its base of buyers It is measured at the individual customer level when individual purchase data is available (panel data) If a SELPAK customer in a market purchased 9 rolls of toilet paper in a given month, and 3 of these rolls are SELPAK rolls, then SELPAK s Share of Category Requirement for that customer in that month is 33% SCR if V if N n1 V in (%) It indicates the degree to which a customers of a specific firm satisfy his/her needs in a category with the firm 12

13 Measure of Behavioral Loyalty: Share of Category Requirement (SCR) Share of Category Requirement is the proportion of category volume (in units sales) accounted for by a specific brand or firm within its base of buyers It is also measured at the aggregate level (segment or entire customer base) when individual purchase data is unavailable If SELPAK s customers in a market purchased 20 rolls of toilet paper in a given month, and 12 of these rolls are SELPAK rolls, then SELPAK s Share of Category Requirement in that month is 60% SCR f I i1 V if N I n1 i1 V in (%) It indicates the degree to which customers of a specific firm satisfy their needs in a category with the firm 13

14 Measure of Behavioral Loyalty: Share of Category Requirement (SCR) Share of Category Requirement is the proportion of category volume (in units sales) accounted for by a specific brand or firm within its base of buyers SELPAK KLEENEX SOLO TOTAL Customer Customer Customer TOTAL SELPAK base of buyers Category Volume 14

15 Measure of Behavioral Loyalty: Relative Volume of Purchasing Relative Volume of Purchasing is the average share of volume purchased (in unit sales) of the brand over a number of weeks It can be measured at the individual customer level (ISCW) If a consumer purchase monthly 30 rolls of toilet paper, and, on average, 18 of these rolls are SELPAK rolls, then SELPAK s relative volume of purchasing for that consumer is 60% RVP if T t1 V t if T N t1 n1 V t in (%) It can also be measured at the aggregate level (segment level or entire customer base) t 15

16 Measure of Behavioral Loyalty: Share of Category Wallet (SCW) Share of the Category Wallet (SCW) is the proportion of category value (sales in $) accounted for by a specific brand or firm within its base of buyers It can be measured at the individual customer level (ISCW): it is the proportion of category value accounted for by a specific brand or firm for an individual buyer from all brands the buyer purchases in that category If a consumer spends $400 monthly on groceries, and $300 of her purchases are with MIGROS supermarkets, then MIGROS s share of wallet for that consumer is 75% in that month ISCW if S if N n1 1 It indicates the degree to which a given customer satisfies his/her needs in the category with a specific brand or firm S in (%) 16

17 Measure of Behavioral Loyalty: Share of Category Wallet (SCW) Share of the Category Wallet (SCW) is the proportion of category value (sales in $) accounted for by a specific brand or firm within its base of buyers It can also be measured at the aggregate level l (ASCW): at the segment level or entire customer base, it is the proportion of category value accounted for by a specific brand or firm within its base of buyers If MIGROS total grocery sales in a given month are $750,000 and the total grocery expenditures of MIGROS customers that month are $1,250,000, then MIGROS s aggregate share of wallet in that month is 60% ASCW f I I i1 ISCW i1 S i if I N Number of Customers of Firm f i 1 1 S i n in It indicates the degree to which the customers of a specific firm satisfy their needs in a category with the firm (%) 17

18 Measure of Behavioral Loyalty: Share of Category Wallet (SCW) Size of Wallet (SW) can be used in conjunction with Share of Category Wallet (SCW) to segment and select customers Share of Category Wallet is different from Market Share Transition Matrix can provide us with expected Share of Category Wallets for brands in a category 18

19 Size of Wallet (SW) Size of Wallet (SW) is the amount of a customer total spending in a category (in $) Stated differently, it is the category sales of all firms to that customer SW i S N n1 in ($) Segmenting Customers High Hold on (Grow wallet if possible) Share of p ) Category Wallet Low Maintain & Guard Do nothing Target for additional selling Small Large Size of Wallet 19

20 Aggregate Share of Category Wallet (ASCW) is different from Market Share (MS) Market Share is calculated across all consumers in a segment or market (buyers and non buyers of the firm s product) MS f I ( ISCW if SW if ) i 1 S N N S S I i 1 n1 n n1 if n (%) Aggregate Share of Category Wallet is calculated only among customers (that is only the actual buyers of the firm s products) ASCW f I I i1 ISCWif i1 Sif I N Number of Customers of Firm f i1n1s in (%) 20

21 Transition Matrix As a customer moves over his/her lifetime through various stage of activity, the Transition Matrix is a convenient way to characterize a brand s likelihood to be bought Brand Purchased Next Time A B C Brand A 70% 20% 10% Currently Purchased B 10% 80% 10% C 25% 15% 60% Customers can switch back and forth from brands We can compute the expected Share of Category Wallet and the Market Share of the three brands 21

22 Customer Activity Metrics Acquisition Rate, Retention Rate, Lifetime Duration, P(Active) 22

23 Acquisition Rate Proportion of targeted prospects converted into customers Acquisition rate (%) 100 Number of Number of prospects acquired prospects p targeted The acquisition rate denotes an average probability of acquiring a customer from a population Always calculated for a group of customers (segment) on a campaign-bycampaign basis Measures responsiveness to campaign The equivalent measure for an individual is the acquisition probability 23

24 Acquisition Cost Proportion of targeted prospects converted into customers Acquisition cost (TL) Acquisition Spending (TL) Number of prospects p acquired The acquisition rate denotes an average cost of acquiring a customer from a population Always calculated for a group of customers (segment) on a campaign-bycampaign basis Measures Cost Efficiency of a campaign Becomes less precise when firm rely on broadcasted communication (TV or print media advertising) 24

25 Cohort of Customers Batch of customers acquired within a specified period of time 1 2 t-1 t 25

26 Retention and Defection Retention rate in a given period is the average likelihood that a customer purchases from the firm in a period (t) given that this customer has purchased in the last period (t-1) N t number of Retention rate t customers in cohort buying in period (t) (%) 100 N t N N Defection rate in a given period is the average likelihood that a customer defects from the firm in a period (t) given that the customer was purchasing up to period (t-1) t-1 t-1 Defection rate (%) 1- Retention rate 26

27 Retention Rate Cohort of 1000 customers starting at beginning of Period

28 Retention is not the same as loyalty Retention is a measure of behavioral loyalty: likelihood to repeat purchase from one period to another But it may purely be out of convenience or inertia Loyalty is more than repeat purchase It involves a positive emotional or psychological disposition towards the firm or its brand(s) 28

29 Retention rate for a cohort increases over time 120 As short-term customers drop out, 100 Defection eec Pattern the retention rate of the remaining (loyal) customers increases 100 Acc counts Rem maining Customer Tenure 29

30 Retention Pattern in Credit Card Industry Defection Pattern Average retention rate for a company increases with customer tenure Average retention rate is low for first-time time Remaining Accounts customer (82%) Customer Tenure Then it stabilizes around 91%-94% 94% for second-time and more customers r 1 82% r2 93% r 92% 3 30

31 Projecting Retention Rates A simple method to have an idea about future retention rates of a particular cohort of customers Projected ed retention ee rate t (%) - t Retention ee rate ceiling (1- exp ep ) C: Retention rate ceiling ρ : retention parameter Maximum attainable retention rate if unlimited resources were available How quickly retention rate converges over time to the retention ceiling Estimated through managerial judgment Estimated through spreadsheet analysis using past retention data 31

32 Actual and Projected Retention Rate for a Credit Card Company Retention Rate (%) 100 (%) Actual Retention Rate Predicted Retention Rate 90 (%) 80 (%) 70 (%) 60 (%) 50 (%) 40 (%) Source: Kumar and Reinartz (2006) Period 32

33 Survival Rate It is the proportion of customers who have survived, i.e. continued to remain as customers until a period (t) from the beginning of observing these customers Survival rate t (%) Retention rate t Survival rate t-1 Survival rate gives a summary measure of how many customers survived between the start of the formation of the cohort abd any point in time afterwards 33

34 Survival Rate Cohort of 1000 customers starting at beginning of Period 1 Retention Rate Survival Rate Survivors Period Period Period Period

35 Lifetime Duration Knowing how long a customer remains a customer Straightforward in contractual relationships lost for good : Mobile phone contract, cable TV subscription Challenging in Noncontractual relationships always l a share : FMCG, Airlines Estimate P(Active) for a given point in time: the likelihood a customer is still active 35

36 P(Active) It is the likelihood that a customer is still active at a given point in time A customer is deemed to be active as long as that likelihood is above a certain threshold (managerial judgment) If it falls below the threshold, the customer is deemed to be inactive (stop allocating resources to that customer) 36

37 Estimating P(Active) A simple method for computing the probability of being active N: number of purchases (in the observation period) T : time of last purchase (expressed as a fraction of the observation period) Observation Period (12 months) Customer x x Months Customer 2 --x--x--x------x N =2 T=8/12 = N =4 T=8/12 = P(Active) T N 37

38 Estimating P(Active) Observation Period (12 months) Customer 1 P(Active) (0.667) % ----x x N =2 T=8/12 = Months x--x--x------x N =4 Customer 2 P(Active) (0.667) % T=8/12 = Both customers have not bought in the last 4 months: customer 2 who bought 4 times in the first 8 months has a lower g probability of buying in the 12 th month than customer 1 who bought only twice in the same window of 8 months

39 Estimating P(Active) Observation Period (12 months) Customer 1 Months Customer 2 P(Active) (0.5) 4 6% -x-x-----x--x x----x x P(Active) (0.75) 32% 4 N =4 T=6/12 = 05 N =4 T=9/12 = 0.75 Both customers have bought 4 times in the 12 month window: customer 2 who made the most recent purchase has a higher p g probability of buying in the 12 th month than customer 1 whose last purchase is less recent

40 Relationship between Retention Rate and Lifetime Duration Avg. lifetime duration 1 1 Avg.retention ti rate 40

41 Empirical Generalizations Satisfaction and Loyalty 41

42 The Profit Chain WHAT YOU GET FIRM VALUE WHAT CUSTOMERS DO CUSTOMER PROFITABILITY WHAT CUSTOMERS FEEL CUSTOMER EXPERIENCE WHAT YOU DO INTERNAL RESOURCES 42

43 1. Intentions are imperfect predictors of behavior Intentions Actual Behavior Nondurables Durables Definitely/Probably buy 36.0% 10.0% Might/Might not buy 24.3% 5.5% Definitely/Probably y won t buy 12.6% 4.1% - Jamieson and Bass (1989) based on 900 consumers Satisfaction and intentions were highly correlated when measured in the same survey, but had no correlations with intentions after a two-week interval. - Mazursky and Geva (1989) based on two studies of over 100 subjects each 43

44 2. Satisfaction improves retention Satisfaction increase from 4.2 to 4.7 (5-point scale), retention increased from 95.9% to 96.5% - Rust and Zahorick (1993) based on 100 retail bank customers 10-point increase in satisfaction (100-point scale) increased retention by 2% and revenues by $195 - Ittner & Larcker (1998) based on 2,500 telecom customers Satisfaction positively related to duration of relationship -Bolton(1998) based on 650 cellular phone customers Satisfaction positively related to retention, cross-sell, share of wallet - Loveman (1998) based on 45,000 retail bank customers 44

45 3. Satisfaction-retention link is nonlinear Customer Retention Ittner & Larcker (1998) Anderson & Mittal (2000) Jones & Sasser (1995) Mittal & Kamakura (2001) Customer Satisfaction Satisfaction-intention link is concave, satisfaction-behavior link is convex - Mittal and Kamakura (2001) 45

46 Empirical Generalizations Satisfaction and Financial Performance 46

47 The Profit Chain WHAT YOU GET FIRM VALUE WHAT CUSTOMERS DO CUSTOMER PROFITABILITY WHAT CUSTOMERS FEEL CUSTOMER EXPERIENCE WHAT YOU DO INTERNAL RESOURCES 47

48 4. Satisfaction improves financial performance 1 point or 1% increase in satisfaction (ACSI) increases market value by $275 m Anderson et al (2004), based on 200 US firms by $240 m Ittner & Larcker (1998), based on 140 US firms Cash flow by $55 m Gruca and Rego (2005) based on 105 US firms 48

49 Impact of Satisfaction on ROI and ROA 1 point or 1% increase in satisfaction increases ROI by 2.37% - Anderson and Mittal (2000) based on 125 Swedish firms ROA by 0.59% - Hallowell (1995) based on 12,000 customers from a retail bank worth 11.4% of current ROI - Anderson, Fornell and Lehmann (1994) based on Swedish firms 49

50 5. Satisfaction-profit link is asymmetric and nonlinear 2.37% Change in RO OI 1 % increase in satisfaction 1% drop in satisfaction Percent -5.08% Source: Anderson and Mittal (2000), based on 125 Swedish firms Linear approach underestimated the impact of completely satisfying physicians by 31% or $150 million in revenues - Roy (1999) based on the study of pharmaceutical industry 50

51 6. Satisfaction-profit link varies by industries and firms Source: Anderson, et al., Customer Satisfaction and Shareholder Value, Journal of Marketing, October

52 Industry and Firm Variation Industry differences account for 14.5% of the variation in association between ACSI and Tobin s q -Anderson, Fornell and Mazvancheryl (2004) based on 200 US firms Industry characteristics explain 35% of the variation in cash flow and 54% in cash flow variability - Gruca and Rego (2005) based on 105 US firms 52

53 Where satisfaction has more impact Insignificant impact on manufacturing firms, positive impact on transportation, utility, and communication firms - Ittner and Larcker (1998) based on 140 US firms Greatest impact of satisfaction on low-involvement, routinized, frequently purchased products (beer, fast food) - Gruca and Rego (2005) based on 105 US firms Simultaneous 1% increase in satisfaction and productivity is likely to increase ROI by 0.365% for goods and 0.22% for services -Anderson, Fornell and Rust (1997) based on Swedish firms 53