Marketing effectiveness is typically measured by market share or turnover. Different metrics proposed here focus on customer profitability and retention. How useful are such ‘new metrics’?

Book data
Title: Managing Customers as Investments
Author: Sunil Gupta and Donald Lehmann
Pages: 224 pages
Publisher: Wharton School Publishing
Price: $34.99

Professors Sunil Gupta and Donald Lehmann (of Harvard and Columbia business schools respectively; for bios click here) put into question the traditional tenets of marketing strategy. Although they do not couch it this way, they suggest that the traditional 4Ps (product, price, promotion and place) should perhaps add a fifth P: profit.

The authors do not question the usefulness of other traditional marketing frameworks (the 3Cs of customer-company-competition or the STP of segment-target-position), yet they underline that these models do not place return on marketing investment at the core of their considerations.

Value for whom?
Gupta and Lehmann take the view that past marketing strategies have too often espoused the iconic ‘customers are king’ motto – whereas in their opinion that credo needs to have an appendage ‘as long as they are profitable’.

Add matrix chart here

This is why the authors propose that companies categorize their customers according to their values in two spheres: the company’s value to the customer AND the customer’s value to the company. A reflection of the old adage that it takes two to tango? In the matrix above, the focus should therefore be on the customers in the top quadrants, those with high value to the company.

Ruthless selection
Traditional marketing success was based on dual metrics: market share and sales. Sometimes a more qualitative factor would be thrown in – for example customer satisfaction or brand image. For the authors real return on marketing investment needs to be measured by customer profitability.

This is why the authors focus our attention on the levers that action customer profitability. These are the same levers that were exposed in part 1 of this series: customer acquisition costs, customer margin and customer retention. Although note that the Customer Lifetime Value formula incorporates the margin per customer, which can be calculated as unit revenue per customer minus the customer acquisition cost.

Add intravenous feed graph here

Acquiring, but at what cost?
Growth is the holy grail of business. More customers. More revenue. More market share. Yet such growth comes at a cost – that of finding and convincing new customers to either try your brand or switch away from their current choice. Customer acquisition was the mantra of the dot-com age, when capturing eyeballs seemed to justify the outlay of any amount. Yet Gupta and Lehmann are prompt to point out the folly of such ways.

The examples they choose are numerous, with some showing down-to-earth realism (for example flower retailer Gerald Stevens or ebroker Ameritrade), whilst others could compete for Golden Fleece awards (CDNow or European cable operators).

Bagged, now bled
With the customer bagged, marketers need to turn their worries on how to squeeze greater margin from customers. In this arena, Gupta and Lehmann provide three counsels. The first advice is conceptual, as opposed to operational. Marketers need to remember that customers should be viewed in terms of the share of wallet that one has captured. For casino-operator Harrah’s, this meant looking at their share of dollars a gambler spends overall (i.e. at Harrah’s but also at competing roadhouses). For a credit card company, it may mean looking a total credit card expenditures, or it could even mean adding cash and checks in the equation.

The other two pieces of advice are more operational. Cross-selling is the first margin-booster that the co-authors highlight. Here, marketers are reminded to sell other existing products to newly acquired customers. Cox Communications, a large US cable television company, successfully added sales of internet and phone subscriptions to cable customers.

The other margin-booster is to think out of the box regarding what new products or services existing customers might need. For moving company U-Haul this meant adding moving supplies (cartons, bubble wrap, tape) to its vehicle rentals. For cosmetics companies it can mean extending the product range by say, adding creams for the young or the old.

Fixing the leaky bucket
As emphasized in the first part of this series, any marketer worth her salt will spend an inordinate amount of time improving the retention rate for existing customers. After all, it is usually less expensive – and more effective – for a Boeing to keep its customers rather than grab market share from an Airbus or an Embraer.

The authors also demonstrate – with their usual mathematical abilities – that increasing retention directly impacts market share. However, they do warn that the costs of increasing the retention rate increases disproportionately as the rate gets higher. So it may be best to fix the leaky bucket only until the dripping is contained, rather than eliminated.

Published in June 2010.
The next installment will appear on July 7 and will cover company valuations using assessment of customer values.

Professor bios
Just use the university ones.

Customer lifetime value in five sets

We examine “Managing Customers as Investments”, written by professors Sunil Gupta of Harvard Business School and Donald Lehmann of Columbia Business School.

Discover the algorithm that every company should use to assess the true value of its customers, and therefore how much it can afford to invest in marketing operations in order to capture new clients.

We cover this book in five parts:

In the past issue (dated June 9), part 1 started off with an examination of the algorithm to evaluate customer lifetime value. How to calculate its value and what precautions to take. Click here to access part

In this issue we focus on customer-based strategy. What are the key drivers of customer profitability and their impact on marketing strategy.

Part 3 – July 7
Customer-based valuation: how the customer lifetime value can be used to value companies, namely in acquisition settings.

Part 4 – July 21
Customer-based planning: how planning with customer objectives in mind (retention, acquisition, etc.) varies from product-based planning. How effective can it be?

Part 5 – August 4
Customer-based organization: how a customer-based focus affects ideal corporate structure.

The editors
Michael and Chris Fodor