Chapter 12 Managing Customer Relationships and Building Loyalty

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 Slide © 2007 by Christopher Lovelock and Jochen Wirtz Services Marketing 6/E Chapter 12 - 2

Important to a Firm’s Profitability? �Customers become more profitable the longer they remain with a firm: �Increased purchases and/or account balances � Customers/families purchase in greater quantities as they grow �Reduced operating costs � � Loyal customers become more efficient to serve Contribute to greater profitability �Referrals to other customers � Positive word-of-mouth saves firm from investing money in sales and advertising �Price premiums � � Long-term customers are more likely to pay regular prices Highly satisfied customers are even willing to pay higher price during peak periods Slide © 2007 by Christopher Lovelock and Jochen Wirtz Services Marketing 6/E Chapter 12 - 4

How Much Profit a Customer Generates Over Time (Fig 12. 1) (Year 1=100) 350 – 300 250 200 150 100 50 0 Year 1 Credit card Year 2 Industrial laundry Year 3 Year 4 Industrial distribution Year 5 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. Slide © 2007 by Christopher Lovelock and Jochen Wirtz Services Marketing 6/E Chapter 12 - 5

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 1 2 3 4 Year 5 6 7 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. Slide © 2007 by Christopher Lovelock and Jochen Wirtz Services Marketing 6/E Chapter 12 - 6

Assessing the Value of a Loyal Customer (1) �Must not assume that loyal customers are always more profitable than those making one-time transaction � Not all types of services incur heavy promotional expenditures to attract new customers � Walk-in traffic more important at times � Large customers may expect price discounts in return for loyalty (e. g. DHL) � Revenues don’t necessarily increase with time for all types of customers (e. g. Telecom) Slide © 2007 by Christopher Lovelock and Jochen Wirtz Services Marketing 6/E Chapter 12 - 7

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 Slide © 2007 by Christopher Lovelock and Jochen Wirtz Services Marketing 6/E Chapter 12 - 8

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 Slide © 2007 by Christopher Lovelock and Jochen Wirtz Services Marketing 6/E Chapter 12 - 9

Understanding the Customer-Firm Relationship Slide © 2007 by Christopher Lovelock and Jochen Wirtz Services

Relationship Marketing (1) �Transactional Marketing �An exchange of value takes place between two parties �One transaction or a series of transactions does not necessarily constitute a relationship �Requires mutual recognition and knowledge between the parties (e. g. passenger transport) �Database Marketing: �Includes market transaction and information exchange (utility services) �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 Slide © 2007 by Christopher Lovelock and Jochen Wirtz Services Marketing 6/E Chapter 12 - 11 �

Relationship Marketing (2) �Interaction Marketing: �A closer relationship where exist face-to-face interaction between customers and supplier’s representatives �Value is added by people and social processes �Interactions may include negotiations, sharing of insights etc. (e. g. community banks) �Network Marketing: �Common in b 2 b context where companies commit resources to develop positions in network of relationships with stakeholders relevant agencies All types of marketing and mentioned above are not necessarily mutually exclusive Slide © 2007 by Christopher Lovelock and Jochen Wirtz Services Marketing 6/E Chapter 12 - 12

Relationships with Customers ( Fig 12. 1) Type of Relationship between the Service Organization and Its Customers Nature of Service Delivery Continuous Discrete Transactions Membership Relationship Cable TV No Formal Relationship Radio station Insurance policy Police College enrollment Lighthouse Subscriber phone Pay phone Theater subscription Movie theatre Warranty repair Public transport Slide © 2007 by Christopher Lovelock and Jochen Wirtz Services Marketing 6/E Chapter 12 - 13

The Wheel of Loyalty (Fig 12. 4) 3. Reduce Churn Drivers Ø Conduct churn diagnostic Ø Address key churn drivers Enabled through: Ø Frontline staff Ø Account managers Ø Membership programs Ø CRM Systems Ø Implement complaint handling and service recovery Ø Increase switching costs Ø Build higher level bonds Slide © 2007 by Christopher Lovelock and Jochen Wirtz 1. Build a Foundation for Loyalty Ø Segment the market Ø Be selective in acquisition Ø Use effective tiering of service. Customer Loyalty Ø Deliver quality service. 2. Create Loyalty Bonds Ø Give loyalty rewards Ø Deepen the relationship Services Marketing 6/E Chapter 12 - 15

A Good Fit Between Customer Needs and Company Capabilities �Identify and target the right customers �Customers often differ widely in terms of needs. �Company should relate customer needs to capabilities. � Speed, quality, time, physical facilities, service personnel etc. Slide © 2007 by Christopher Lovelock and Jochen Wirtz Services Marketing 6/E Chapter 12 - 17

Searching for Value—Not Just Volume �Focus on number of customers served as well as value of each customer �Usually 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 • E. g. Investment Slide © 2007 by Christopher Lovelock and Jochen Wirtz Services Marketing 6/E Chapter 12 - 18

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 spreads positive word-of-mouth? Platinum Gold Iron Lead Poor Relationship Customers Which segment costs us time, effort, and money, yet does not provide return we want? Which segment is difficult to do business with? 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. Slide © 2007 by Christopher Lovelock and Jochen Wirtz Services Marketing 6/E Chapter 12 - 19

The Customer Satisfaction Loyalty Relationship (Fig 12. 7) Apostle Loyalty (Retention) 100 Zone of Affection 80 Near Apostle Zone of Indifference 60 40 Zone of Defection 20 Terrorist 0 1 2 Very Dissatisfied Source: Adapted from Thomas O. Jones and W. Earl Sasser, Jr. , “Why Satisfied Customers Defect, ” Harvard Business Review, November-December 1995, p. 91. Slide © 2007 by Christopher Lovelock and Jochen Wirtz 3 4 Neither Satisfied Satisfaction Services Marketing 6/E 5 Very Satisfied Chapter 12 - 20

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. Slide © 2007 by Christopher Lovelock and Jochen Wirtz Services Marketing 6/E Chapter 12 - 22

Strategies for Developing Loyalty Bonds with Customers (2) �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 Slide © 2007 by Christopher Lovelock and Jochen Wirtz Services Marketing 6/E Chapter 12 - 23

Strategies for Developing Loyalty Bonds with Customers (3) �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 Ø Customized service for loyal customers ― e. g. , Starbucks Ø Customers may find it hard to adjust to another service provider who cannot customize service Source: PAL Library; Asset ID: AAFHKTO 0 Slide © 2007 by Christopher Lovelock and Jochen Wirtz Services Marketing 6/E Chapter 12 - 24

Strategies for Developing Loyalty Bonds with Customers (4) �Structural Bonds �Mostly seen in b 2 b 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 b 2 c 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 Slide © 2007 by Christopher Lovelock and Jochen Wirtz Services Marketing 6/E Chapter 12 - 25

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 Slide © 2007 by Christopher Lovelock and Jochen Wirtz Services Marketing 6/E Chapter 12 - 26

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 towards particular milestones Slide © 2007 by Christopher Lovelock and Jochen Wirtz Services Marketing 6/E progress Chapter 12 - 27

Strategies for Reducing Customer Defections Slide © 2007 by Christopher Lovelock and Jochen Wirtz

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; interviews of former customers by third party agency in-depth �Churn Alert Systems: � � Monitor activity in individual customer accounts to predict impending customer switching Proactive detention efforts—send voucher, customer service representative calls customer Slide © 2007 by Christopher Lovelock and Jochen Wirtz Services Marketing 6/E Chapter 12 - 29

What Drives Customers to Switch? ( Service Fig 12. 9) Failure/Recovery Value Proposition Core Service Failure • Service Mistakes • Billing Errors • Service Catastrophe Service Encounter Failures • Uncaring • Impolite • Unresponsive • Unknowledgeable Pricing Service Switching • High Price • Price Increases • Unfair Pricing • Deceptive Pricing Inconvenience • Location/Hours • Wait for Appointment • Wait for Service Response to Service Failure • Negative Response • No Response • Reluctant Response Competition • Found Better Service Others Involuntary Switching Ethical Problems • Customer Moved • Provider Closed • Unsafe • Cheat • 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. Slide © 2007 by Christopher Lovelock and Jochen Wirtz Services Marketing 6/E Chapter 12 - 30

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 customers who want to cancel their accounts with Be careful about how save teams are rewarded Slide © 2007 by Christopher Lovelock and Jochen Wirtz Services Marketing 6/E Chapter 12 - 31

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 Slide © 2007 by Christopher Lovelock and Jochen Wirtz Services Marketing 6/E Chapter 12 - 32