Loyalty Value

Loyalty programmes began in earnest in the UK with the launch of the Tesco Clubcard scheme in 1995. But do these programmes really give value to retailers, or are they just an expensive fad? Robert East and Dr Wendy Lomax, of Kingston Business School, investigate the real value of loyalty schemes.

According to Reichheld1,who explored the value to businesses of customer retention in industrial and financial service markets in the US, it is much cheaper to retain existing customers than to convert new ones. Existing customers spend more, recruit family and friends as buyers, cost less to service, and accept higher prices.

Central to Reichheld’s conclusion is a concern with improving the product so that it meets the needs of those customers who supply most value to the business. Typically, firms lose and gain about 10 to 20 per cent of their customers each year, so reducing this defection will mean that an unchanged recruitment will still enlarge the customer base.

But retail differs from financial markets. Our work at Kingston indicates that about half of all supermarket defections arise from factors over which the supplier has no control, such as the inaccessibility of a store after the customer has moved house. Also, our research shows little difference between the spending of an established supermarket customer and that of a newly acquired one. So whatever the merits of retention, customer acquisition may be a worthwhile objective in grocery retailing.

In retail, customers may spread their purchases across several stores in a particular category, and loyalty can be measured as the share of spending that a customer allocates to a chain in that sector. The store’s loyalty score will be given by the average loyalty of the customers it attracts. This is what market research companies mainly report.

Customer loyalty can also be defined by the share they give to their primary store. This is called first-store loyalty. Data from loyalty schemes provides evidence of spending in one store chain only and cannot give an exact measure of share loyalty. However, from the frequency, value of spending, how recent the shopping was done, and the composition of the shopping basket, it is possible to make an estimate.

Loyalty schemes take many forms. They may offer benefits for all potential customers, such as the Huggies Mother & Baby Club, which gives sample packs and other goods to mothers. They may target valued customers, for example the BA Executive Club offers seat upgrades, boarding guarantees, and executive lounges. Other schemes may be based on simple incentives, such as Somerfield’s points scheme.

They may also be designed, like Air Miles, to admit only one player in a category. Schemes that focus on service improvement are more in the Reichheld mould. They may genuinely raise customer interest and add to the firm’s brand equity. Simple incentive schemes are unlikely to have much effect on the way the brand is valued and are more likely to operate like discounts: they might raise loyalty while they run, but ending the scheme could end the effect.Supermarket schemes that are used to create databases allow firms to target specific customer segments. For example, Tesco identifies wine purchasers and invites them to tastings, and gives vouchers to encourage customers to use sections of the store that they have so far avoided. Safeway may target customers with families, which tend to spend more. When successful, such interventions will raise spending and thus affect share loyalty. Databases may also be used to detect and recover lost customers, and assist in the development of new product fields such as financial services.

A potential effect of loyalty schemes is to move customers from low share to high share loyalty. However, the loyalty level may change the effectiveness of such interventions.

We know that in the UK and US, the average first-store loyalty in supermarkets is about 80 per cent and that the very loyal customers are near 100 per cent. Why spend money promoting to these very loyal customers? Their spending in other stores is small and offers little scope for gain. Their loyalty means that they are likely to stay, with or without inducements.

At the other extreme the switchers, who often hold cards for all the stores they use, might make 40 per cent of their purchases at their first store. If you promote to them, they will take the cherries that are offered but may switch again when other suppliers offer better benefits. In short, high customer loyalty is an asset but it does not define a clear marketing strategy.

Moreover, loyalty programmes are not cheap. Some aspects of cost are fairly clear: the one per cent incentive paid by UK supermarkets has to come from extra sales and a margin that has been getting more slender.

In addition, there are the costs of data analyses and the management time spent using the information from the analyses. In total these costs are substantial.3 Faced with these bills, suppliers should consider cutting their prices as an alternative to a loyalty scheme. In the US, Wal-Mart’s adoption of everyday low prices has proved effective, while Asda’s low-price positioning has worked well in the UK. With Wal-Mart’s takeover of Asda, the pressure on prices is set to increase.

Customer reactions

Kingston Business School has investigated consumer reaction to supermarket loyalty programmes in two studies.

One study, conducted by Sara Hillman in Stroud, Gloucestershire, in January 1998, showed that only ten per cent of the population disliked such programmes. Even Waitrose shoppers were more positive than negative about loyalty schemes, despite the fact that Waitrose has no programme. One question asked shoppers whether they would prefer discounts of the same value as the loyalty benefits. Fifty-six per cent favoured discounts, but this is hardly a rejection of loyalty schemes since it means that nearly half the respondents preferred to present cards and use vouchers, rather than avoid this trouble with a discount.

The second, a 1999 study conducted by Peter Wale in the Kingston area, showed that 68 per cent favoured discounts, but this may reflect the local population rather than a change in shopper attitudes. This study also showed that shoppers recognised some effect of the scheme on their own behaviour. About a half thought that the scheme at their main store helped to retain them, and about a quarter thought that it raised their spending.

Attitude studies tell us what respondents believe but we need harder evidence about what customers do. We know that shoppers tend to hold multiple cards. This may suggest that customers join the schemes of the stores they use, rather than use the stores whose schemes they have joined. When this is the case, the incentive effect of the scheme is likely to be, at best, defensive.

We have identified four studies that focus on the behavioural effects of loyalty schemes. At Kingston, we reviewed the introduction of the Tesco loyalty scheme.4 It seemed to contribute to the overall growth of Tesco but did not produce an exceptional increase in the amount bought by each customer.

A year after its launch, Tesco had much the same market share and share loyalty that Sainsbury’s had possessed two years before without the benefit of a scheme. Instead of building extra share loyalty, Tesco retained and recruited more customers. Though welcome, extra recruitment is not usually seen as an effect of a loyalty scheme.

A second study, by Byron and Anne Sharp, examined the FlyBuys scheme in Australia, similar to Air Miles.5 In this case the effect of the scheme should have been to raise the sales of brands covered by the scheme to those customers who had enrolled. But only a slight effect was observed.

Brands test

Two more studies have now been reported at the 1999 European Marketing Academy Conference. The Sharps investigated the roll-out of FlyBuys in New Zealand, looking at the purchase of four main fuel brands. One of the brands was in the FlyBuys scheme and another ran a promotion. The brand in the scheme lost some customers but sold more to the remaining customers and managed to hold onto share. The promoted brand gained share by a temporary increase in both buyers and buyers buying more. The leading brand, with neither promotion nor loyalty scheme, lost ground, and the smallest player was largely unaffected. In this study, the loyalty scheme seems to have been successful in retaining market share by increasing share loyalty.

The fourth study was conducted at Kingston in collaboration with Phil Gendall at Massey University in New Zealand. This examined the effect of different variables on supermarket loyalty. In the UK, the possession of a loyalty card for the customer’s main store was found to have no effect on share loyalty but did contribute to the attractiveness of the store. In New Zealand, where schemes only have general incentive functions, the possession of a loyalty card slightly reduced share loyalty.

These studies indicate modest effects of loyalty schemes. It seems likely that the Air Miles-type of programme does have some effect on share loyalty. Also, the introduction of a loyalty programme with first mover advantage, as in the case of Tesco, helps to expand by both retention and recruitment.

Loyalty programmes are liked by customers but they are very expensive to administer. Moreover they are just one aspect of marketing. There is a danger that they take too many resources at a time when price has become more important in the competition between stores.

Valuable information

But loyalty schemes can help stores enhance what they offer, as Reichheld affirmed. They can be used for self-scanning as part of banking and home shopping developments. The databases collected from the card information reveal customer preferences which can be used to provide information and services, either in-store or though the Internet, that are tailored to each customer.

Thus, loyalty programmes could make store use more efficient and enjoyable, and this may be the key to the stores’ survival.

Both authors work at Kingston Business School. Robert East is professor of consumer behaviour and Wendy Lomax is head of marketing. The Marketing School specialises in loyalty research in consumer and business-to-business markets.

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