Pick up any annual report and see how it presents its top line. Income from sales will be broken down by product sector, business division or geography. Which is a strange thing, because none of these entities are the real source of income for companies. The only entity that ever actually acts as a source of income for a company is it customers. Yet, bizarrely, few financial reporting formats or internal management accounting metrics even recognise their existence.
When it comes to customers, we’ve been on a long journey. Go back 20 years and virtually all marketing activities were focused on customer acquisition. The concept of loyalty marketing was a revelation.
Then came loyalty with added data. As customer databases grew, we realised that some customers are more valuable than others, and the notion of customer lifetime value (LTV) entered the marketing equation.
Getting to LTV wasn’t easy. To calculate LTV you had to look beyond product data silos to find those customers who purchased more than one product from you. You then had to project the likely (discounted) cash flows from them into the future, for which you needed historical data reliable enough to spot trends and patterns. This quest for the holy grail of a “single customer view” has been many a database marketer’s life story.
So is that it? Is this where the journey ends? Not according to Don Peppers and Martha Rogers, the duo famously (or infamously) responsible for the phrase “one-to-one marketing”. According to them, the customer revolution will only be complete when we replace the notion of shareholder returns with “customer equity”… because they are one and the same thing.
Total shareholder return is the sum of total corporate (discounted) cash flows. And what is customer equity? The sum of total (discounted) cash flows. The two phrases describe the same thing using different words. But they lead you in very different directions. Focusing on “return on customer” (the title of Peppers and Rogers forthcoming book) is actionable. It concentrates the mind on what it takes to build customer equity. And customer equity “can be divided and sub-divided into smaller and smaller groups of customers, right down to the molecular level of the individual customer”.
In other words, while “shareholder return” is a backward-looking reporting concept, return on customer is a management tool that focuses the mind on specific actions designed to improve performance. And they will be different to the things we end up doing to increase shareholder value. For example, slashing budgets or driving promotions to meet quarterly or annual financial targets often actually destroys customer equity while supposedly delivering value to shareholders. The difference between the two numbers is the difference between the rampant, counter-productive short-termism we see around us today and what it takes to build a decent business.
This includes how we measure the effectiveness of marketing. The first chapter of Peppers and Rogers’ book has a neat chart showing the way most companies measure returns on a typical direct marketing campaign. If the response rate is high enough and it generates enough cash flow to cover the costs of the campaign, it seems worthwhile. It delivers bottom-line results.
But add to this the extra ingredient of “change to lifetime value”. What happens if over-mailing generates a degree of customer indifference leading to a 0.05 per cent year-on-year decline in response rates? This has an enormous effect on these customers’ overall LTV: it destroys customer equity. While each separate campaign seems to deliver bottom-line results, together they are not helping to build LTV. Far from it. Their bottom-line results are a by-product of the fact that the company “is actually eating its own customer base”.
So far, says Peppers, companies’ use of LTV data has been limited to identifying the few most valuable customers that they need to hold on to. The real opportunity, however, is to distinguish between the actions that improve LTV and the actions that actually reduce it.
Philosophically, Peppers argues, this is all about orienting corporate cultures around customer trust and encouraging employees to treat customers as they themselves would like to be treated. Without this, he warns, data-driven marketing can easily degenerate into “marketing by computer programme”. “I accept some of the blame for encouraging that,” admits Peppers. “It was not deliberate, but it happened. People looked at the ideas of one-to-one marketing as a way to extract more short-term earnings from customers.”
But is “return on customer” just old wine in new bottles? Certainly, it offers an improvement on the notion of brand equity, which addresses the same idea of building long-term value but which is much fuzzier. But are such highly data-intensive marketing strategies really actionable? Judging by the tiny number of companies, such as Royal Bank of Canada and Tesco, which really seem to have mastered data-driven marketing, the answer may well be “No”.
And there is an alternative. Long ago, John Maynard Keynes observed that the notion of enlightened self-interest is fundamentally flawed because, given the endless range of variables and the innate unpredictability of future events, future self-interest is actually impossible to calculate. Evolutionary biologists have since suggested that human emotions and morals evolved as heuristic devices to help us make decisions in these circumstances – when attempting to calculate the optimum “right” answer would take us forever and would probably end up being the wrong choice anyway.
Given a choice between being honest and being dishonest, for example, we know that honesty is morally right. Also, even though being honest doesn’t necessarily deliver a short-term benefit, in the long term having a reputation as an honest person is a huge benefit. In such a case, doing the right thing simply because it is the right thing to do is actually a pretty good formula for getting to good answers quicker and cheaper than trying to make complex calculations of future benefit.
Can companies learn from this? Do we really need ongoing, detailed number crunching and analyses of likely triggers of change to do the right thing with customers? Do we really need “proof of return on investment” to be environmentally responsible? As Marks & Spencer demonstrated decades ago with its no-questions-asked returns policy, many trust-building customer-oriented policies don’t require rocket science.
On the other hand, the core message of Return on Customer is right on the button. We need to square the shareholder/customer circle in a win-win way, and we need decisions which look beyond immediate transaction value to longer-term relationship value. And if this sentiment really can be turned into a practical programme for improvement, then so much the better.
Alan Mitchell, firstname.lastname@example.org