Analysis – What’s loyalty worth?

About two years ago, in an effort to realize the benefits of a customer loyalty program as promptly as possible, Vintage Inns linked itself to coalition loyalty program, the CIBC Aerogold Advantex Benefit. It was a way for us here at Vintage to tap into a population that was already predisposed to acquiring loyalty rewards and that might be inclined to switch to a corporation honouring that loyalty program.

About two years ago, in an effort to realize the benefits of a customer loyalty program as promptly as possible, Vintage Inns linked itself to coalition loyalty program, the CIBC Aerogold Advantex Benefit. It was a way for us here at Vintage to tap into a population that was already predisposed to acquiring loyalty rewards and that might be inclined to switch to a corporation honouring that loyalty program.

Advantex manages all aspects of the CIBC Aerogold Advantex Benefit program including direct mail, database and creative services. During the period July 2000 to April 2001, two direct mail campaigns were conducted with the objective of driving repeat business to our hotel properties within 30 days of an initial visit (something that is contrary to normal customer behaviour).

Despite the ‘short’ 30-day window of opportunity, the strategic use of Bonus Aeroplan Miles to drive behaviour resulted in over $127,000 in incremental room-night revenue for our hotels. Based on the success of this ‘repeat business’ strategy for the hotels, in fourth quarter 2001 we rolled the concept out to our restaurant properties. Results to date are a 4% response and a staggering 60% lift in the average bill for repeat guests versus non-repeat guests.

Overall, we have seen a steady growth of CIBC Aerogold cardholders coming to Vintage Inns properties and restaurants. To accelerate and enhance that growth, Advantex has created highly targeted bonus offers for both, driving incremental revenue at no additional cost. This has enabled us to impact (and track) behavioural changes of our visitors and guests, thus gaining incremental revenue within our existing hotel and restaurant capacity.

Loyalty and reward programs – whether individual or coalition – work by combining the laws of economics with human behavior. Although human behavior is far from an exact science, certain practical, objective and mathematical principles of economics can be applied to it in a retail context to answer questions such as: How do we quantify the link between loyalty and profits? What is the actual cash advantage of holding onto a good customer for an additional three, five or 10 years?

That loyal customers are valuable is obvious to most business people. Yet a vast number of companies are unable to ascribe a cash value to customer loyalty. Sales figures and average customer tenure, frequency of stay or spend, while helpful, draw only partial conclusions. From an accounting perspective, there is no distinction between the value of sales revenue from brand-new customers and that of long-term, loyal customers.

In establishing customer loyalty and reward programs, the company must view its human customers as assets, and, in so doing, can apply certain mathematical formulae to predict the behavior of these human assets.

Consider the following scenario: A company steadily adds new customers to the top of its inventory, while old customers are steadily vanishing from the bottom. If the defection rate can be slowed, the new customers gained will increase the total growth of the company at a much faster rate, known as the customer volume effect.

In most businesses, the profit earned from each individual customer grows as the customer stays with the corporation. The benefits of loyalty can be measured by finding productivity and expense efficiencies that can be linked directly to experienced customers. To find the value of new customers, one must determine the typical annual profit pattern.

To do this, one must first calculate the Customer Retention Rate and consider it in relation to the expected duration of the customer, as the following formulae indicate: If out of 10,000 customers that bought in year one, 8,000 are still buying in year two. The retention rate would be 80%.

Retention Rate % =

# still buying in year two x 100

# who bought in year one

The retention is a necessary variable in carrying out the Customer Lifetime (or expected duration) calculation: assuming a retention rate of 80%, the customer lifetime would be five years.

Customer Lifetime =

100

100 – retention rate

While it is difficult to generalize spending characteristics of customers as a whole, one can differentiate among customers by age, source, profession, education and income level.

Once the data for each segment has been gathered, you can proceed to calculate what it would be worth to increase your customer retention rate, based on the real cost involved in acquiring new customers against the spending patterns of the established ones.

Recency/Frequency/Monetary Value (RFM) analysis, being driven by customer behavior rather than attitude, identifies customers most likely to respond to cross-selling. The principle of RFM analysis is simple. A customer who made a purchase recently is more likely to buy again; a customer who buys more frequently is more valuable and more loyal, and the amount a customer spends is obviously of greater importance. Being able to identify and prevent the loss of frequent high-spend customers is helpful in maintaining profits.

Corporations can also jumpstart the benefits of customer loyalty programs by linking to existing coalition programs, as Vintage Inns has done with Aerogold. The costs inherent in fast-tracking such a loyalty program are primarily borne in the communication to that set group, such as direct mail, e-mail and traditional advertising.

The cost factor to facilitate this is normally based upon a commission of points issued to the loyalty partner – in the Aerogold/Advantex model: a percentage fee is based upon the value of the points issued. This is the norm. However, some programs ‘force’ the client to purchase points at a set fee. These points also have a ‘shelf-life’ and have to be distributed or ‘lost,’ as ‘unused inventory.’ My experience is that these companies are realizing that they have to change their model or lose loyalty-market share.

Loyalty programs that provide easy access to rewards are more apt to succeed. Recognizing this, many companies with proprietary loyalty programs are also moving towards ‘affiliated’ or coalition programs. Programs such as American Express, Aeroplan and others, afford the cardholder the opportunity to collect points at a variety of retail establishments, while remaining loyal to one program.

Improvements in customer loyalty can, in turn, translate into bottom line enhancement for a company and the first step is making loyalty programs a strategic component to a business plan.

Allen Gelberg is director of sales and marketing at Niagara-on-the-Lake Vintage Inns. He can be reached at a.gelberg@vintageinns.com.