• Satisfaction-loyalty-profit chain
• Loyalty programs
• Key objectives of Loyalty Programs
• Examples of Loyalty Programs
• Design Characteristics of Loyalty Programs
• Reward Structure

Product
Performance
Service
Performance
Employee
Performance
Customer
Satisfaction
Retention /
Loyalty
Revenue /
Profit
Source : Strengthening the satisfaction-profit chain”, Eugene W Anderson, Vikas Mittal.
Journal of Service Research , Nov 2000. Vol 3, Iss.2, p 107

• Direct link suggests, that as customers experience greater satisfaction with a firm’s offering, profits rise
• Improving customer satisfaction comes at a cost and once the cost of enhancing satisfaction is factored in, offering “excessive satisfaction” doesn’t pay
• Marginal gains in satisfaction decrease, while the marginal expenses to achieve the growth in satisfaction increase
• There is an optimum satisfaction level for any firm, beyond which increasing satisfaction does not pay

Source : “Strengthening the satisfaction-profit chain”, Eugene W Anderson, Vikas Mittal . Journal of
Service Research , Nov 2000. Vol 3, Iss.2, p 114

• Link between satisfaction and retention is asymmetric:
– Dissatisfaction has a greater impact on retention than satisfaction
• Even if the level of satisfaction is high, retention is not guaranteed
• If customers are dissatisfied, other products become more enticing
• The link is nonlinear in that the impact of satisfaction on retention is greater at the extremes
• The flat part of the curve in the middle has also been called the “zone of indifference”
• Factors like the aggressiveness of competition, degree of switching cost, and the level of perceived risk influence the shape of the curve and the position of the elbows

Source : “Why satisfied customers defect”, Jones, Thomas O, Sasser, W Earl Jr. Harvard
Business Review.
Boston: Nov/Dec 1995. Vol. 73, Iss. 6
The figure shows the variability in the relationship between satisfaction and retention across industries. Loyalty was measured as the customer’s stated intent to repurchase

• In the very competitive automotive industry,
– Very high levels of satisfaction are necessary for a customer to repurchase the same brand again
• When utilising an airline:
– Consumers may incur considerable switching costs
– This cost might increase due to bonus point build-up in frequent flyer programs and due to limited airline choice at any given airport
– Thus, consumers tend to re-patronize an airline even though their satisfaction might only be moderate

• Reichheld’s hypotheses
– Long term customers spend more per period over time
–
Cost less to serve per period over time
– Have greater propensity to generate word-of-mouth
– Pay a premium price when compared to that paid by short-term customers
• Does not hold true in a non-contractual relationship
– Revenue stream must be balanced by the cost of constantly sustaining the relationship and by fending off competitive attacks
– Efforts at increasing customer satisfaction and retention not only consume a firm’s resources but are subject to diminishing returns

• Reinartz and Kumar: A cross the different firms,
– there is a segment of customers that is loyal but not very profitable
(due to excessive resource allocation)
– there is a segment that generates very high profits although it has only a short tenure
– Since these short-term customers can be very profitable, it is clear that loyalty is not the only path to profitability

Lifetime
Profit
High
Low
Low
Loyalty
High
• Overall trend shows a direct correlation between loyalty and profitability
• Outliers on the graph who generate high profits while not having high loyalty will outperform those customers who have a high level of loyalty but who are not very profitable

Source : “The mismanagement of customer loyalty”, Werner Reinartz, V Kumar.
Harvard
Business Review

• Loyalty to a product or service by repeat purchases can be due to customer’s natural satisfaction and preference for the products’ features and benefits
• Loyalty can also be induced through marketing plans and programs from the firm
• Behavioral loyalty: the observed action that customers have demonstrated towards a particular product or service
• Attitudinal loyalty : the perceptions and attitudes that a customer has towards a particular product or service

• A marketing process that generates rewards to customers based on their repeat purchasing
• Consumers who enter a loyalty program are expected to transact more with the focal company, giving up the free choice they have otherwise
• In exchange for concentrating their purchases with the focal firm, they accumulate assets (for example, ‘points’)
• Points are exchanged for products and services, typically but not necessarily associated with the focal firm
• CRM tool used by marketers to identify, award, and retain profitable customers

• Building true (attitudinal & behavioral) loyalty
• Efficiency profits
• Effectiveness profits
• Value alignment

• Encompasses both attitudinal and behavioral components of loyalty
• Greater commitment to the product or organization through the building of true loyalty
• Function of true value provided to the customers
• Involves degree of involvement in the product category, visibility of the product when using it, or value expressive nature of the product
• Goal of many customer clubs
• Difficult in the case of a low involvement category – e.g.: grocery shopping

• Despite spending hundreds of millions of pounds on price-cutting campaigns and loyalty card schemes, supermarkets have only persuaded a small minority of shoppers to stay loyal
• According to a report from Mintel Research:
– Only 15% of all grocery shoppers are completely loyal to the store where they do their main grocery shopping
– 29% use one other store
– 22% use two others
– Men are more likely than women to be loyal to a single store
– 46% of men shop in just one or two main stores

• Profits that result from a change in customer’s buying behavior due to the loyalty program
• Change in buying behavior can be measured, in:
• Basket size
• Purchase frequency acceleration
• Price sensitivity
• Share of category requirements (SCR) or share-of-wallet
• Retention
• Lifetime duration
• Measured in terms of the immediate profit consequences as compared to profit consequences without loyalty programs – net of the LP cost

• Measured in terms of the long-term profit consequences realized through better learning about customer preferences over time
• Allows sustainable value creation for customers through customization of products or communication
• Most likely to generate sustainable competitive advantage since it produces the highest profits in the long run
• The strategy of using a LP to learn about customer preferences may result in impressive gains for both customers and organizations
• Customers get more of what they truly want, and firms are safe in terms of not having to engage in a costly mass marketing exercise

• Goal of aligning the cost to serve a particular customer with the value he/she brings to the firm
• Allows firms to serve their most valuable customers in the best manner
• The goal of value alignment is particularly critical when there is great heterogeneity in the customer’s value and in the cost to serve the customer
Example: the airline business, the hospitality industry and the financial services industry

1000
860
800
600
435
400
200
0
161
17
-200
Tier A Tier B
159
Revenue per year
Annual profit
-67
Tier C
Example of a firm with a highly heterogeneous customer base:
-Tier A represents 71% of the customer base, Tier B 42% and Tier C the remaining 27%.
- More than a quarter of the customers are unprofitable and need to be subsidized by the highly profitable ones

• Frequent-Buyer programs
– City Bagels, a sandwich retail chain offers every 10th sandwich free for customers who have nine stamps from previous purchases
• Volkswagen Club and Card
– Customers collect points from Volkswagen (VW) for servicing their car or buying accessories and from partners of car rental companies and tour operators
– The points can be redeemed for dealer services, price reductions on car purchases, and catalog merchandise
• Star Alliance Frequent Flyer Program
– Any flight on any Star Alliance airline counts towards a members frequent flyer program

• Webmiles.de
– Webmiles allows its members to collect and redeem assets in a network of retail partners. Thus, the retailers become members in Webmiles’ partner network
– Webmiles manages the program and the communication with more than 1 million customers
• Neimann Marcus
– Offers its LP ‘InCircles’ to all customers. Using a shopping card, customers accumulate points that can be redeemed for exclusive rewards
• Buitoni Pasta Club
– Buitoni offers a platform for exchange among pasta enthusiasts: sharing recipes, cooking experiences, and testing innovative product concepts.
The club offers an opportunity for Buitoni to get closer to heavy end-users

• American Airlines, United, Continental, and USAir multiply miles flown by a customer by a coefficient derived from the type of seat class that customer has paid for
• Passengers who are willing to pay to upgrade to business or 1st class will, in turn, earn more miles and thus be rewarded sooner and more often
• Southwest’s reward program is based on the number of flights that an individual takes. Every eight round trip flights are worth one free round trip flight
• Southwest rewards customers who fly 50 round trip flights in a year with a free companion pass for the next year
• Southwest captures the business of high value customers who fly at least once a week, on an average
• By reducing the role of the middleman, Southwest is able to capture revenue
• Result: Southwest has been the only major airline that has had a positive net income since the year 2000

• Reward structure
– Hard vs. soft rewards
– Product proposition support (Choice of rewards)
– Aspirational value of reward
– Rate of rewards
– Tiering of rewards
– Timing of rewards
• Sponsorship (existence of partner network, network externalities)
– Single vs. multiform LP
– Within sector vs. across sector LP
– Ownership (focal firm vs. other firm)

• Hard vs. soft rewards
–
Financial or tangible rewards (hard rewards) and those based on psychological or emotional benefits (soft rewards)
– Hard rewards: price reductions, promotions, free products and preferred treatment
– Soft rewards: psychological benefit of having special status in addition to receiving preferred customer service

• Product proposition support
– Reward directly supports the firm’s product proposition
•
Example: The US Bagel franchise Finagle-A-Bagel has a LP that allows participants to redeem their accumulated bonus points for the firm’s own products
– sandwiches and drinks
– Allows LP member to redeem points for products that are completely unrelated to the focal firm’s offering
• Example: British Petroleum’s LP users may redeem points from their gasoline-related purchases for merchandise such as first-aid kits, photographic films, coffee mugs, and Barbie dolls

• Aspirational value of reward
– Consumers prefer hedonic goods as opposed to utilitarian goods when receiving a gift or a LP reward
• Mercedes Benz’s LP makes it possible to transform points against a flight in a
MIG 29 combat aircraft
• Neimann Marcus, the US luxury retail chain, gives out each year a new list of
“wow and cool” rewards. These unique rewards include a world famous photographer to come to a customer’s home for taking pictures

• Rate of rewards
– Ratio of reward value (in monetary terms) over transaction volume (in monetary terms)
– How much a consumer is getting in return for concentrating his or her purchases
• Tiering of rewards
– Rewards based on asset accumulation response function - how assets or rewards are accumulated as a function of spending behavior

Cum ulative $ spendings Cum ulative $ spendings
In case 1, the buyer receives the same amount of rewards per $ spent, regardless of the spending level
In case 2, the buyer receives a larger amount of rewards per $ spent, with increasing spending level. Here, the program is relatively more attractive for buyers who are high spenders. Many airline programs follow this pattern

• Harrah’s Entertainment: Three-tiered loyalty program - ‘Total Rewards’.
Revenue ($ Billions) Profit ($ '00 Millions)
4.5
4
3.5
3
2.5
2
1.5
1
0.5
0
-0.5
1999 2000 2001 2002
-The tiered structure offers different levels of reward services and privileges to customers of differing tiers
-Reward ranging from cash back at slots/tables to complimentary offers for shows, meals, and hotel stays at any Harrah’s location.
-Members also can draw benefits from Harrah’s alliance with partner firms such as Sony, Royal
Caribbean, and Warner Brothers

• Increasing levels of rewards to customers based upon their annual spending level
• First tier: Premier Insider- all members that sign up for a
Bloomingdales credit card
• Second tier: Premier Plus Insider- members who spend more than
$1000 annually
• Third tier: Ultimate Premier Insider – customers who spend over
$2500 each year at Bloomingdales

• Timing of Rewards
– Determined by minimum redemption rules, type of reward given out, and reward rate
– Longer the timing to build up to a certain reward level, the greater the
“breakage” (the amount of rewards that are never redeemed)
– “Lock-in” effect - firm creates redemption rules that favor long accumulation periods, thereby impacting customer retention
– Customers build up assets that function as switching cost

• Single vs. multi-firm LP
– Single: LPs that reflect only the transactions with its own customers
–
Multi-firm: LP member may also accumulate assets at organizations associated with the focal firm’s LP
• Within sector/across sector
–
Supply side dimension of multi-firm LP design-degree of cross sector partners
•
Example for within sector: The STAR Alliance of SAS, Lufthansa, United
Airlines, Varig
•
Example for across sector: The LP of AOL and American Airlines, with its 2000 or so partners, spans many different industries
• Ownership
–
For multiform LPs, the ownership dimension characterizes who owns the LP within the network; whether it is the focal firm, a partner firm or a firm whose sole purpose is to manage a LP

• Satisfaction-profit-chain (SPC) needs to be implemented at a disaggregate level or individual level than aggregate, firm-level
• Link between satisfaction and retention is asymmetric, i.e., dissatisfaction has a greater impact on retention than satisfaction, and nonlinear
• Reinartz and Kumar demonstrated that loyalty is not the only path to profitability
• The success or failure of a loyalty program (LP), whether contractual or motivated through incentives, is determined by profitability from the customer
• Most companies need to revisit their business model
– to reflect on the impact of Loyalty Programs on their bottom line
– to determine how customer service initiatives add value to future revenue streams