Defining Customer Valuation

Most utilities view their interactions with customers – mainly monthly billing
and payment – as highly routine, with neither party giving a second thought
to the value at stake in the relationship. Deregulation and new service offerings
increased the opportunities for utilities to enhance their performance by determining
customer valuations and using them for strategy development and operations.

Customer valuation is defined as the analytical process of increasing knowledge
of customers, at a segment or even individual/household level, in order to determine
and improve the value of customer relationships, interactions with customers
or corporate programs. Customer valuation can utilize any attribute of current
or potential customers necessary to meet strategic objectives.

Consider a brief litmus test to determine if customer valuation may enhance
performance:

  • Has an initiative fallen short of its objectives because of a poor understanding
    of how customers would respond?
  • Have executives held back from investing in a strategy or project because
    of uncertainty about what the “take rate,” marketing cost per customer or
    revenue per customer would be?
  • Could the strategy have been more successful if it had first been piloted,
    with hypotheses on customer values and preferences then validated?

Customer valuation can aid in strategy development and execution by helping
utilities understand customer preferences in detail, and how their actions drive
performance at an individual customer or household level. Customer preferences
might include receptiveness to certain offers, bill payment and energy conservation
habits, or power reliability demands.

Opportunities for Using Customer Valuation

In the utility industry of the next several years, there are three opportunities
for utilities to apply knowledge of customer value: improving customer acquisition
and retention; optimizing customer service quality while reducing costs; and
enhancing the valuations of projects, such as infrastructure changes, that impact
customers.

Although retail competition has remained dormant for residential customers,
acquisition and retention capabilities are still important for any utility that
sells value-added services such as warranty services, or whose larger customers
have choice. For warranty services, utilities can use customer valuation to
determine:

  • Which customers are likely to respond to an offer and be profitable?
  • Which offers’ attributes (e.g., annual versus monthly pricing, rebates on
    new appliances), messages (safety, cost advantages) and touchpoints (e.g.,
    direct mail, email, billing message, combination) will elicit the best response
    or conversion rates? What is most important to the target customer?
  • Does warranty usage increase renewal rates? Which customers have excessive
    warranty usage (e.g., are not profitable)?

Amid increasing regulatory pressure, and an expanding set of customer relationship
management capabilities, customer valuation can be a tool to improve on the
dual goals of increasing service quality and reducing costs while limiting the
constraints they place on each other. Asking and answering the right questions
about customer needs and preferences can provide direction for which capabilities
different customers will use or are using (especially the most valuable customers),
and how investments should be prioritized. For example, many customers follow
seasonal patterns of high-bill complaints or nonpayment that significantly increase
utilities’ cost to serve. Identifying and proactively approaching the right
customers to offer level payment plans or access to energy assistance programs
such as LIHEAP can increase customer valuations through cost avoidance.

Advancing changes in meters, sensors, software and analytical capabilities
for distribution networks allow utilities to create “intelligent” networks with
sophisticated performance management capabilities down to the neighborhood or
even customer premises level. But this intelligence requires knowledge of what
the performance should be, and for which neighborhoods or premises. Accurate
customer valuation and knowledge of customers’ specific needs and preferences
is critical input into the planning process for intelligent networks, as well
as other infrastructure projects requiring choices about customer-impacting
performance.

Utility Experience With Customer Valuation

Utility companies use a variety of approaches to understand the value of customers.
In the regulated environment, customers are commonly viewed through a meter-centric
lens that connects them to the company through their meter. Any resulting segmentation
is product-based as determined by which product an account uses and the quantity
and patterns of use. These segments have been used to target programs or offers
and to establish rates, making them very similar to the customer’s rate classification.

In moving toward an environment with more choice, many utilities have developed
profile-based segments to reach customers by examining other aspects of the
relationship, including buying habits, demographic profiles, industry, service
preferences and the like. This involves building a profile of an attractive
customer for a given expansion strategy or program. One of the biggest challenges
often is to segment current customers by profile, and using that designation
to determine customer values and drive specific actions. These profile-based
approaches employ a more complete understanding of the customer, but most utilities
have limited their use to specific programs or expansion strategies, with segment
maintenance or updates.

In the broader view of customer valuation, it often is best to incorporate
a mix of product-based segmentation, profile-based segmentation and other customer
valuation concepts as required. One approach does not fit all situations and
there are myriad ways to leverage data sources, data manipulation techniques
and marketing and analytical tools. The types of decisions required and the
variability of the product or service being offered (e.g., offer content, components,
price, terms) influence choosing a segmentation approach. Project decisions
that are largely financial (e.g., driven by project NPV or ROI) will depend
more on product-based valuation and have more static customer data needs. Decisions
on marketing campaigns or customer service initiatives, managed over time, will
be driven more by profile-based valuation with more complex data needs (e.g.,
update frequency, data volumes). Reaching the most attractive prospects with
the right offer, message or change in performance is the key.

An Approach for Valuing Customers

We posit that utilities can increase profitability by more carefully considering
customer value during the planning process. Improved decision-making for spending
scarce resources can have significant impacts on growth, risk and profitability.

The right method for determining customer value depends on a utility’s business
rationale and strategy for using customer value – real-time updates on customer
website usage would be inappropriate for customer valuation to aid infrastructure
planning, for example. We found that the successful development and use of any
customer valuation capability is based on a simple, four-step approach.

Customer Valuation Approach

Step 1: Set the Strategy

This most critical step in the process requires that stakeholders are clear
and agree about the strategic drivers for customer valuation, be it for marketing
campaigns or prioritizing capital investment options. The challenge is to clearly
articulate which of these drivers are most important at any given time.

Setting the strategy is the responsibility of senior management and requires
the involvement of operations, customer service, marketing and finance. A simple
rule is to involve senior managers from every area touched by the driver(s)
and potential uses of the customer valuation being developed. The senior management
team establishes and communicates commitment across all relevant areas, steers
the project and stays closely involved through key team members. Customer valuation
goals should be simple, measurable, have clear linkages between business strategy
and expected results, and they may build on each other over time. A project
charter can answer the full range of questions, including: What are we doing?
Why are we doing it? How will we use the information? How much time and funding
do we have? How will we measure success?

We needed people who were familiar with the financial systems of the company
so we could get to the data we had. We were fortunate – we had a good financial
director who was deeply interested in the project. Because she was responsible
for consolidation of our annual operating budgets, her operating insights
were indispensable.

—Sandy Bean, Marketing Director, Alabama Gas Corp.

The asset evaluation provides a realistic look at the available information
and skills within the company to get the job done. Many utilities underestimate
how much customer information they have, but overestimate the difficulty of
bringing this information into a usable, scalable format. The most readily available
data – energy usage, payment history and usage patterns for large customers
– will support only product-based segmentation, which is not customer valuation,
but is the extent of what most utility companies do for segmentation. A profile-based
segmentation requires a combination of demographic, aggregate behavioral patterns
and psychographic information. (Demographics consist of basic personal information
like age, marital status, and gender and are the most basic type of profile
data. Behavioral data focuses on buying habits, preferences for newspapers over
TV, etc. Psychographics depict consumers’ beliefs and interests in areas like
musical tastes and political opinions.) And interpreting this information often
requires a skill set not readily available in the utility business.

Step 2: Design the Approach

In this step, a designated project team develops the valuation hypotheses and
plan details. This team should represent all stakeholder areas identified in
Step 1, and it should also include financial analysis and IT support. It is
up to this team to convert the team charter into an executable plan and to provide
the sponsors with detailed information about how they will proceed.

In a customer valuation project, often the information is difficult to retrieve
in a usable format. We suggest that teams start with clearly stated hypotheses
that they hope the data will answer. Combining hypotheses and business knowledge
with IT and process expertise can aid in designing the overall approach, clarifying
data needs and maintaining a manageable flow of data for analysis. It also helps
to provide continuity for the employees who will be implementing and using customer
valuation tools.

If information is needed from an external vendor, define as specifically as
possible the information or service needed and what you plan to do with it once
you get it (think about proving or disproving hypotheses, as you did with your
own data). Specificity often allows vendors to suggest helpful and often less
expensive alternatives.

Then define what the valuation output will look like. Examples include: expected
customer lifetime values of all customers in a segment, relative value of every
current customer, or a listing of target customers. Each of these deliverables
requires a very different level of preparation and analysis. Design the approach
to fit the defined deliverable, while also supporting continuity and usefulness
for subsequent projects. Make sure the executive sponsors understand this output
beforehand, particularly if it was not fully defined in the team charter.

Step 3: Perform the Valuation

This step involves execution of the approach from Step 2. Success in this step
depends on an ability to support or disprove the team’s hypotheses with flawless,
fact-based logic.

Start with the initial hypotheses that drove the data requirements developed
in Step 2. Conduct the analysis by rigorously applying the valuation approach.
Then refine and test your valuation conclusions within the team and with other
stakeholders as needed. Has the team thoroughly proved or disproved each hypothesis
and developed other important insights? If an outcome is counterintuitive, is
the team certain that it is correct and can be clearly explained?

We thought that allocating costs to customer segments would be our most time-consuming
task because it required sifting through so many cost-generating activities
and deciding the basis on which to allocate it to customer groups. This allocation
actually turned out to be one of the easiest portions of the project. What
took the most time was managing our scope and agreeing on how far we wanted
to go with this step, particularly as the work progressed.

—Sandy Bean, Marketing Director, Alabama Gas Corp.

Once the team has finalized its conclusions, it should turn them into recommendations
and action plans. The recommendations and actions should be synchronized with
the strategic drivers and clearly articulated with the project sponsors. While
some rework is customary, this is where a thorough analysis and approach begins
to pay off in the form of vital customer insights, targeted recommendations
and well-documented benefit statements.

Step 4: Implement and Manage the Process

This is where the analysis ends and the application begins. The customer valuations
just completed are used to make decisions on customerimpacting projects, processes
and systems. It is likely that some members of the valuation team will lead
the implementation efforts. In fact, it may be essential to building understanding
and buy-in.

A customer valuation project is rarely a one-time exercise. A customer valuation
for acquisition, retention or customer service capabilities is used frequently
and requires maintenance, refreshes and new functionality. A utility that creates
a customer valuation for a specific project has an opportunity to develop this
customer knowledge into a corporate asset that can be enhanced over time, providing
a common view of customers for any project. Such enhancements and further development
are opportunities for the “measure and refine” loop and can enter the process
at any step.

How to Get Started

Look at some of the following opportunities in your own company to determine
where to start:

  • Evaluate your current operating budget and categorize the investments you
    are making. Does this spending support the services most valued by your customers?
    Which services do your customers value most?
  • Conduct an audit of your current capital projects. Can you identify the
    impact on customers and revenue benefits from these projects? Has that revenue
    potential eroded or could it be improved over initial estimates?
  • Examine the profitability of the six largest marketing programs currently
    under way. What effect would a 5 percent increase in customer conversion rates
    have on the bottom line? What are the biggest barriers to this improvement?
  • Go on marketing and sales calls or review customer service calls. Do marketing
    and sales representatives have the information they need to vary how they
    handle or sell to customers?
  • Benchmark your customer satisfaction scores against a utility peer group
    of similar size, services and geography. Do you know what these other companies
    do or what drives their customer satisfaction? What specific actions could
    you take to match or surpass their satisfaction rates?

If the answers to any of these questions are not what you hoped or the answer
is “I don’t know,” it is time to implement a strategy for customer valuation
and define drivers that are most critical to the success of the business.