The average U. S.company loses approximately fifty percent of its customers within five years of its inception. Because of the Internet businesses today have to play by new rules. Customers are more fickle than ever and they have more choices than ever before. This is why building customer loyalty is more important than ever before.
Corporations today are downsizing but they aren’t turning things around. Instead, they find themselves launching another round of downsizing a year later. They cut costs, reengineer, restructure, and still keep loosing customers. Why?
To answer this question we have to look at a business as a simple equation. A business provides a product or service. In return, the customer pays a price. Everybody wins. Yet today’s business world is filled with losers. Companies are laying off thousands of employees and cutting pensions in the name of restructuring. Vendors and suppliers are being squeezed dry in the name of cost-cutting.
Even the basic customer transaction is seen as a win-lose game, that requires a loser for every winner. Giving customers a good deal means sacrificing some of your return. The win-lose game, however, is a trap. Winning at the expense of others only creates the illusion of victory, an illusion maintained because of a fixation on profits.
In the Industrial Age profit-based thinking was the ultimate goal of a business. Profits determined whether a company was performing well. The danger in this thinking today is that you can make a short-term profit, not only by creating customer value, but also by destroying it. For example, lowering quality standards increases your profit margins. But customers get less value.
Companies today are spending less on research and development to increase their profit margins. The problem with this is in the future, customers will get less value as your products become obsolete. The result of such destructive profit profit-based thinking is obvious. In the first case, customers soon realize that your products are of poor quality and switch to a competitor. In the second, your customers realize that a competitor has developed an improved product and they switch to that competitor.
Thus, the actions that created short-term profits can, in the long term, cause your profits to shrink. And as those profits shrink and you scramble to cut your expenses, you’ll end up destroying even more value, often by laying off employees.
With the loss of employees and cutbacks in research and development customers are getting even less value, causing an even greater exodus of customers to your competitors. Soon, you’ll find yourself in an out-of-control spiral of value destruction, customer loss, profit loss, more value destruction, and so on.
Business is not a win-lose game. If you make profits at the expense of others, sooner or later you are going to pay the price. The reason is that customer loyalty doesn’t survive the win-lose game. If you take value away, your customers will notice, and leave.
Ensuring customer loyalty gives companies only one alternative: to make virtuous profits only, profits that result from creating customer value, not destroying it. Creating customer value is the true goal of business, the core activity from which sales, profits, and long-term success will flow.
If you give superior value to customers, value that can’t be beaten by competitors, you gain their loyalty. Most managers vastly underestimate the importance of customer loyalty. They see it as an arithmetic question: loyal customers equal a stream of constant customer dollars. Two plus two equals four.
For companies with loyal customers, two plus two can equal five, six, or even ten. Somehow, customer loyalty generates a surplus of cash and value that far outweighs the direct contribution of sales revenue. The more you offer loyal customers, the more surplus cash and value the customer generates. The more you give, the more you get. That’s the loyalty effect.
Customer loyalty kicks off a series of events that cascade through the entire business system to create a continuous cycle of growth. For example, with loyal customers, revenues and market share grow. Plowed back into the company, profits offer greater value for customers, meaning more market share and revenues, meaning more money to create greater value. The result: growth that is sustainable for many years.
A loyal customer contributes a steady and increasingly greater stream of revenues to your company. It is this contribution of sustainable growth that kicks off the continuous cycle of growth. For example, loyal customers increase profitability, because acquiring new customers costs money, advertising costs, commission on sales to acquire new customers, sales force overhead, and so on.
In most businesses, customers spend more money over time. For example, a man who buys dress shirts at a store eventually starts to buy ties, slacks, and a sports coat or even a suit. As customers get to know a business, they become fore efficient. They become more familiar with your products and they need less help from your employees, which saves operating costs.
Long-term customers bring other customers to your business. They often pay more than new customers. Introductory offers, special rates, coupons, and other price advantages can then be used primarily to bring in new customers.
The first step in building a long-term customer base is finding and keeping the right customers, customers who will remain loyal and thus become more profitable with each passing year. The best way to find the right customers is to segment the potential customer base into different categories, and then target categories that are more likely to be loyal.
To do this you have to find the criteria that ties into loyalty. For example, are customers from one area of the country less loyal than those from another area? Does profession matter? Once you know what type of customer you want to attract, you can then choose the distribution channel and product lines that are likely to bring in those customers.
Another critical component of the creating customer loyalty is measure the value of your product or service and the value of your customer. Value is created by humans, and most companies today can’t measure human assets, or they measure them incompletely. For example, to calculate what your product is worth to a customer, you take the value of the product and subtract the price the customer paid. To calculate what a customer is worth to your company, you take the price of the product and subtract total costs.
If this accounting were accurate, then business strategy would be a simple science. To bring more value to the customer, lower the price. To bring more value to the company raise the price. But the truth is more complex. To measure customer value, you have to take into account the evolution of value over several years.
How do you calculate the lifetime value of a customer? It is really simple: You multiply what your average customer spends with you in a year, by the average return on sales, by the number of years your average customer stays with you. This will give you the profit from your average customer.
You can then refine this figure further by adding how much your average customer increases orders each year to how much your costs decrease, added to the dollar value of referrals each year, and add how much more you can charge each year without loosing loyal customers. Add these four figures up and it will give you the lifetime value of a customer.
Customer loyalty is at the heart of every company, that has high productivity, solid profits, and sustained growth. Loyal customers fuel the never-ending cycle of growth. But before you can start this cycle, you have to reject the central misconceptions of the past: that making a profit is the central goal of all business.
Copyright© 2005 by Joe Love and JLM & Associates, Inc. All rights reserved worldwide.
Joe Love draws on his 25 years of experience helping both individuals and companies build their businesses, increase profits, and achieve total success. He is the founder and CEO of JLM & Associates, a consulting and training organization, specializing in personal and business development. Through his seminars and lectures, Joe Love addresses thousands of men and women each year, including the executives and staffs of many of America’s largest corporations, on the subjects of leadership, self-esteem, goals, achievement, and success psychology.
Reach Joe at: firstname.lastname@example.org
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