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Customer segmentation by customer loyalty and customer value is a crucial part of anyCRM limitation.

Some folks have said that CRM is about treating different customers differently. We are all familiar with the 80/20 rule: 20 percent of customers bring you 80 percent of revenue. So it’s important to find out which customers are the 20 percent best customers for your company and to treat them differently in order to acquire, upgrade and retain them. What’s the definition of best customers? High loyalty, high value.

It is the high value that merits spending efforts and resources to acquire, upgrade and retain those customers. It is the high loyalty that will allow you to enjoy a long relationship. However, it takes both to make a “best customer.” Either one is not sufficient.

Customer Loyalty

Suppose you frequently dine at one restaurant. You spend money with that restaurant during a two-year period. In the eyes of the restaurant owner, could you be regarded as their loyal customer? Yes and no, depending on the definition of “loyal.”

Two Types Of Loyalty

If we define loyalty as a purely behavioral or transactional concept, then you are a loyal customer to that restaurant since you patronize the restaurant over a long period of time. But customer retention is a behavioral concept; loyalty and relationships are emotional concepts. GreaterChinaCRM breaks down loyalty into two different types: transactional loyalty and emotional loyalty.

Transactional Loyalty

Transactional loyalty covers recency, frequency, customer lifetime and customer share. It is based on transactional records or some historical evidence that shows how recent, frequent, long (customer lifetime) and deep (customer share) the customer is with your company. However, with reference to the restaurant example, you may not be loyal to that restaurant anymore if you move to a new place to live or if a new restaurant opens nearby with slightly better prices, food or service.

Emotional Loyalty

Emotional loyalty includes the willingness to pay premium price, making your product the de facto standard, recommending your products and services to others, and a willingness to provide feedback to help make your product better. It is based on emotions and relationships, rather than purely the transactional records. Of course, this would be difficult to observe purely by looking at customer purchasing records. In-depth surveys and other observations need to be done.

Customer Satisfaction

We’ve heard many companies claim how satisfied their customers are with them; they claim to have a satisfaction rating of 95 percent. However, it is very dangerous to define customer satisfaction simplistically, especially if you work out any customer plans or strategies based on oversimplified figures. Based on our observations, any customer satisfaction measurement should cover the following variables:

• Product;
• Service;
• Relationship;
• Price;
• Convenience;
• Brand/image; and
• Total customer experience.

What Is Customer Satisfaction?

Sometimes we find that although we’ve delivered a high level of products and services to our customers, they are not as satisfied as we presume. What’s gone wrong? The satisfaction equation is missing one element: customer expectation. It is created by your company and by your competitors, as well. Be aware that the expectation of customers is constantly increasing.

The Delta Principle in Killer Customer Care, by George Colombo, states, “The quality of your customers’ experiences is not a direct result of the objective quality of your products and services. Instead, customer satisfaction is more a function of how closely your customers’ experiences with your business conform with their expectations.”

We’d like to summarize customer satisfaction as customer experience – customer expectation. The larger the positive gap, the more satisfied your customers are; the larger the negative gap the more dissatisfied your customers are.

For example, you plan to buy a fake Cartier watch from the hawker stores in China. Before you go there, you would have surveyed the market and planned your budget. You know that the rock bottom offer should be around 30 percent of the price listed by the storeowner, and the list price of your favorable fake Cartier model is about RMB500. Thus, RMB150 is the amount that you’re willing to spend. So you go to the shop and pretend that you’re not that interested, though you showed some minimum interest on one model. When you were asked the price in your mind by the storeowner, you know the rule of the game is to offer an unacceptable price to make them counter-offer to reach a deal. You offer RMB100 and started to walk away, and within a few seconds you are called back and said the deal is done with RMB100! Well, how would you think and feel? The price is way below your budget (RMB50 cheaper than what you planned), you got what you want (your dream Cartier watch, though fake). So what’s wrong? You may think your offer of RMB100 was too high or wonder if there are any defects in your new watch. You may still buy, but you may not be as satisfied as if you got the deal at RMB150 after rounds of negotiations and bargains. Why? Because your expectations (to get your watch through clever tactics and the negotiation process) were not addressed and met. Simply put: The customer experience was less than the customer expectation.

On the other hand, say you’ve ordered 12 books from Amazon.com to come by sea freight. After 12 weeks, your order arrives at your home in Hong Kong. But when you open the carton, you find only 11 books, but the delivery list attached shows 12 books. You then email Amazon.com. In two days, the missing book is delivered by air. Bear in mind that during the whole exchange there are no questions asked. This “no question” experience far exceeds your expectation. So, has Amazon.com lost or gained? They’ve got you as an extremely loyal customer from now on (because you’re extremely satisfied), and you’d tell this story to everyone you know. Simply put: The customer experience is greater than the customer expectation.

Relationship Between Loyalty And Satisfaction

We’ve talked about customer loyalty and customer satisfaction. It seems there are correlations between loyalty and satisfaction. A few questions to ask:

• Does “satisfied” equal “loyal”?
• Does “satisfied” lead to “loyal”?
• Does “not satisfied” lead to “not loyal”?

Obviously, the answer to the first question is no. There are many occasions when you’re satisfied but not loyal, especially in highly competitive market environments such as the fastmoving consumer goods market in China right now. The answer to the second question is also no. There are many factors other than satisfaction that lead to loyalty. Same thing for the third question: There are occasions when you’re not satisfied but loyal (transactional loyalty in this case), especially the industries with only a few players or monopoly, like the mobile network operators in China.

Level Of Competition

So assuming the same degree of satisfaction, why is the loyalty level so different for different industries? It is due to the level of competition in your own industry. With the same degree of customer satisfaction, the loyalty level is different for companies in highly competitive industries when compared to loyalty levels for companies in noncompetitive industries.

Customer Value

Monetary Value

The most straightforward measurement of customer value is the amount of money that particular customer brings to your company. This could be grouped into the following categories, up-buying, cross-buying and referrals. Up-buying in your terminology means upselling, to sell a greater quantity of the same products and services to the same customer. Crossbuying is also a form of upselling, to sell different products and services to the same customer. Referrals means to you that the same customer refers your products and services to other customers.

Customer Profitability

This information will not have much meaning if we know only the revenues generated by that customer without also knowing the costs (both direct and indirect) that were incurred when dealing with that particular customer. We’ve seen so many cases in which so-called “big deals” have resulted in poor profit margins, or even deficits, for numerous companies. We all know the importance of measuring customer profitability, but most of us still haven’t done it yet. One of the major reasons is that it’s not easy. But “not easy” does not mean extremely difficult or impossible. From GreaterChinaCRM’s 3C Method, there is a tool called CBA – customerbased accounting – that derives the profitability of each customer segment, or even of each customer.

Customer Profiles

Most companies, after years of business, find that there are some customer profiles that tend to generate more values (revenue, profits, referrals) than others. The simple pattern for B2C cases includes demographics information such as age, sex, occupation, income, role in household and size of household. For typical B2B cases, it is industry information such as industry type, size of company (revenue, number of employees) and years in operation.

Customer Lifetime Value

Finding the customer lifetime value (CLV) is a much more difficult mission than ascertaining customer profitability. The simplified expression of customer lifetime value is: CLV = NPV (net present value) of profits from your customer.

The LV Quadrant

We have defined and explained the concepts of customer loyalty and customer value. Now we come to customer segmentation – using the LV Quadrant to segment customers according to loyalty and value. In Figure 1, we divide the customers into four basic categories:

A. High loyalty, high value;

B. Low loyalty, high value;

C. High loyalty, low value; and

D. Low loyalty, low value.

The vertical axis is the index of how high (or low) the customer loyalty is. The horizontal axis is the index of how high (or low) the customer value is.

Loyalty Factors

1. Transactional loyalty (recency, frequency, customer share, customer lifetime);

2. Emotional loyalty (pay premium price, make you the standard, recommend you, prefer your products);

3. Level of satisfaction (product, service, relationship, brand/goodwill, price, convenience, total customer experience); and

4. Level of competition.

Value Factors

1. Monetary (up-buying, cross-buying, referrals);

2. Customer profitability;

3. Customer lifetime value (CLV); and

4. Customer profile (demographics/profile).

Let’s see how we put the LV Quadrant together with the customer pyramid – the fundamental tool of the 3C method.

The Applications Of The LV Quadrant

Figure 2 is the classic customer pyramid of the 3C method. The segmentation is according to the revenues generated by each customer segment. There are limitations to segmentation, however, if it is based on revenues only and the customer loyalty and customer value factors have been ignored. Thus, we incorporate the LV Quadrant into the customer pyramid (see Figure 3). We put B and C types of customers on the same level since we regard “high loyalty, low value” and “low loyalty, high value” as being of similar importance.

There are more parameters than customer loyalty and customer value. If we divide customer value into current and potential, we could then add one more axis to make the LV Quadrant three-dimensional (see Figure 4)

We divide the customers into eight categories:

A. High loyalty, high potential value, high current value;

B. Low loyalty, high potential value, high current value;

C. High loyalty, high potential value, low current value;

D. Low loyalty, high potential value, low current value;

E. High loyalty, low potential value, high current value;

F. Low loyalty, low potential value, high current value;

G. High loyalty, low potential value, low current value; and

H. Low loyalty, low potential value, low current value.

Customer segmentation is only one part of any CRM implementation and of the 3C method. But it’s a very crucial part.