MarketingStrategyChapter03

RobertPalmatier,1,MarketingStrategyChapter3,MarketingPrinciple#2AllCustomersChangeManagingCustomerDynamics,Agenda,IntroductionApproachesforManagingCustomerDynamicsEvolutionofApproachesforManagingCustomerDynamicsLifecycleApproachCustomerDynamicSegmentationApproachCustomerLifetimeValueApproachChoiceModelsFrameworkforManagingCustomerDynamicsInputstoManagingCustomerDynamicsFrameworkOutputsofManagingCustomerDynamicsFrameworkProcessforManagingCustomerDynamicsManagingCustomerDynamicsExampleTakeawaysCase,2,Palmatier,AllCustomersChange,AnotherunderlyingissuefacingmanagersthatmakemarketingdecisionsdifficultisthatallcustomerschangeCustomersdesires/needsformostproductsandserviceschangeovertimeorduetospecificeventsIndividualconsumerneedschange(age,experience,andduetotriggerevents)Customersareembeddedinindustries/markets,whichchangeovertime(PCs20yearsagoandnow)Customersneedsvarynotonlyduetoinherentdifferencesinpeople(heterogeneity)butalsoaspeopleandmarketschange(dynamics)Thus,weneedtoadaptour“static”segmentationofallcustomersbasedon“generic”needs(MP#1)byfocusingonourexistingcustomersandaccountingfortheirtimedependentneeds(MP#2)Customerdynamicsarechangesincustomerpreferencesthatoccurovertime,Palmatier,3,ExerciseonCustomerDynamics,EveryonetakeafewminutestodescribeyouroryourparentspastcarpurchasesCarat20_Toptworeasonsbought_failuretounderstandandaddressthesedynamicswillleadtopoorbusinessperformance,Palmatier,7,Marketingprinciple#2:allcustomerschangeandaneffectivemarketingstrategymustmanagecustomerdynamics,Example:GeneralMotors,Buick:failuretomanagecustomerdynamicsCustomersneedschanged,customersmovedtodifferentsuppliersLeftBuickwithasmallerportfolioofoldercustomersBrandbecameassociatedwiththeelderly;salesdropped50%Acura:successinmanagingcustomerdynamicsHondarealizeditscustomersweremigratingtomoreexpensivecarsLaunchedAcura:ahigherpricedluxurycartargetedtothosecustomersWithinafewyears,Acurawasoneofthebest-sellingluxurybrandsintheUS,Palmatier,8,Agenda,IntroductionApproachesforManagingCustomerDynamicsEvolutionofApproachesforManagingCustomerDynamicsLifecycleApproachCustomerDynamicSegmentationApproachCustomerLifetimeValueApproachChoiceModelsFrameworkforManagingCustomerDynamicsInputstoManagingCustomerDynamicsFrameworkOutputsofManagingCustomerDynamicsFrameworkProcessforManagingCustomerDynamicsManagingCustomerDynamicsExampleTakeawaysCase,Palmatier,9,EvolutionofApproachesforManagingCustomerDynamics,LifecycleApproachusesgenericstagesofgrowthandtheirpositioninthelifecycletodeterminecustomerpreferencesandassociatedstrategiesDynamicCustomerSegmentationsegmentsafirmsexistingcustomersonthebasisoftheirsimilar,expectedmigrationpatternsCustomerLifetimeValuecapturesthecontributionofeachcustomeraccordingtohisorherexpectedmigrationpathovertheentirelifetimewiththefirm,Palmatier,10,EvolutionofApproachesforManagingCustomerDynamics,Palmatier,SpeedofResponse,Slow,Fast,SizeofSegmentManaged,AllCustomers,NicheSegment,11,LifecyclePerspective:“Ok”FirstApproximation,Assumes“all”customers,markets,products,industriesmovethruasequentialsetof“stages”astheymatureAppliesastandardsetofmarketingtacticsateachstagePros:EasytoapplyMakescommonsenseCons:Missesmanyuniquetriggerpointsandmigrationpaths(ignorestemporalheterogeneity)Inaccurateand/orineffectiveformanyfirms,Palmatier,12,DifferentLifecycleApproaches,Customerlifecycleattemptstocapturehowindividualstypicallychangeastheyageandreachcommonage-relatedmilestonesProductlifecycleproposesthatvariousproductsgothroughfourtypicalstagesinrelationtotheiracceptancebysociety:introduction,growth,maturity,anddeclineIndustrylifecyclecomprisesoffivestages:EarlyestablishmentofitsrangeandboundariesAninnovationstagetoseta“dominantdesign”Theshakeoutstage,markedbyeconomiesofscale,suchasthatsmallerplayersgetforcedoutMaturity,whenfirmsfocusonmarketshareandcashflowsThedeclinestage,whensalesdecayfortheindustryasawhole,Palmatier,13,TypicalCustomerProductLifecycle,Palmatier,Sales,DescriptionsoftheStages,14,CustomerDynamicSegmentationApproach,Evaluatesexistingcustomersbehaviors/needsineachAERstagetounderstandtemporaldifferencesCustomersare“temporally”similarineachstage(assumption)Matchesmarketingactiondomains(i.e.,acquisitionisoftenaself-containedmarketingdomain)Dynamic-basedsegmentationissometimescalledtheAcquisitionExpansionRetention(AER)model,becauseitcapturescustomersenteringthefirmsportfolioandexpandingovertime,evenasothercustomersslowlyleaveAcquisitionstagebeginswithfirstcontact,typicallybeforethefirstpurchaseoccurs,whenprospectsandearlycustomershavesimilarneedsExpansionstagehasfirmsthataretryingtoupsellorcross-selltoexpandtheirsalesandengagementwithexistingcustomersRetentionstagedealswithcustomerswhomigratenotbecauseofamismatchinthecoreofferingoralifeeventbutbecausetheyhaveabasicpropensitytoswitch,inpursuitof“greenerpastures”,Palmatier,15,CustomerDynamicSegmentationApproach(AERModel),Palmatier,16,Example:AERStrategiesEmergefromaDynamicSegmentationinB2BMarket,UsesHiddenMarkovModels(HMM)SimultaneouslyclustersandlinksclustersGiveprobabilitiesofmovingamongsegments#clustersaredatadrivenversusAERCanevaluatewhatstrategiestriggerordrivemigrationExampleof346B2Bcustomersover6yearsMigrationsevenoccurinamostlystableB2Bcustomerportfolio,Palmatier,(SeeDataAnalyticTechnique3.1formoredetailsofHMM),17,HiddenMarkovModel(HMM)Analysis,HiddenMarkovmodels(HMM)canuncoverstagesor“states”ofcustomerbehaviors,aswellashowthosestatesevolve.Becauseeachstatedescribesthecommonbehaviorsexhibitedbysomegroupofcustomersatsomepointintheirrelationshipwithafirm,HMMisaformofdynamicsegmentation.,DAT3.1,Description,Tounderstandthedynamics(orstages)stagesofacustomersrelationshipwithabusiness.Todynamicallysegmentationthecustomerbase.Topredictwhenacustomermightchangestages,whichmayimplymoreorlessvalueforthefirm.Todeterminewhentoproactivelyseektobuildcustomerrelationships.,WhentoUseIt,Acustomersrelationshipwithafirmexistsinoneofseveralpossibleunobserved(orhidden)stage,eachwithfiniteprobability.Customerbehaviorvariesdependingonthestage,suchthata“stronger”stagecustomerlikelybuysmorethanoneina“weak”stage.InHMM,customersalsohaveafiniteprobabilityoftransitioningfromanyonestagetoanother,partiallyasafunctionofmarketingefforts.Forexample,advertisingmightcausecustomerstoshiftfromaweakertoastrongerstage.Customerbehaviors(e.g.,purchases)andfirmactions(e.g.,marketing)serveasinputstotheHMM,whichestimatesfiveoutputs:(1)thenumberoffeasiblestates(ordynamicstages)inthedata;(2)initialprobabilitythatacustomerisineachstate;(3)transitionprobabilities,ortheprobabilitythatcustomersmovefromonestatetoanother;(4)theconditionalprobabilityofabehavior,giventhecustomershiddenstate;and(5)theeffectofmarketinginmovingcustomersacrossstages.,Todynamicallysegmentalumnidonationbehaviorandinvestigatewhichofitsmarketingactivitiespromptdonorstogivemoney,ABCUniversityconductedaHMManalysisthatidentifiedthreehiddenstates:dormant(correspondswithnodonation),occasional(correspondswithinfrequentdonation),andactive(correspondswithfrequentdonation).Withlowmarketingeffort,dormantcustomersremaindormantinthenextperiodwitha90%probability(redtext);activecustomershavea33%chanceofbecomingoccasionalinthenextperiod(greentext).Withhighmarketingeffortthough,thedormantcustomersbecomeoccasionaldonorswitha57%probability(redtext),andactivecustomersexhibitonlya25%chanceofbecomingoccasional(greentext),bothofwhicharegoodforABC.,Transitions:LowMarketingEffort,Transitions:HighMarketingEffort,18,Palmatier,HiddenMarkovModelExample:RelationshipStatesandMigrationPaths,Palmatier,DamagedState(57%),TransactionalState(50%),TransitionalState(29%),CommunalState(61%),62%,13%,ExplorationMigration,RecoveryMigration,NeglectMigration,BetrayalMigration,16%21%,StrongRelationships,WeakRelationships,PoorRelationships,EndowmentMigration,35%,38%,19,7%,InsightsforB2BHiddenMarkovModelExample,StatesinHMMdescribedifferenttypesofbehaviorthatthesame(ordifferent)consumersmightexhibitatdifferentpointsoftime;transitionsamongstatescapturethenotionthatconsumerscanswitchfromonestatetoanotheratanypointintimeInthetransactionalstate,therelationshipsindicatelowlevelsofcustomertrust,commitment,dependence,andrelationalnormsIfcustomersfollowapositivemigrationpathandmovetothetransitionalstate,theydosoonlybrieflyInthecommunalstate,thelevelsoftrust,commitment,dependence,andrelationalnormsarehigherthaninanyotherstate,andtherelationshipproducesgoodcooperationandprofitThedamagedstateproduceslowlevelsoftrustandcommitmentandverylowrelationalnormsandcooperation,thoughcustomerdependencetendstostayhigh,Palmatier,(SeeDataAnalyticTechnique3.1formoredetails),20,CustomerLifetimeValue(CLV)isaKeyAnalysisToolforMakingAERDecisions,Howdoyouknowbestcustomerstoacquire/expand/retain?Inmanybankinginitiativesonly1in3“customers”remainafterincentiveendsAreallcustomersworthacquiringorretaining?CLVapproach:evaluatesafirmsprofitasthesumofeachcustomerslifetimediscountedcashflowsApproachcaptures“true”contributionofeachcustomeratanystagebyaccountingfor:Customerheterogeneityanddynamiceffects(individuallevel,usestransitionexpectations,anddiscountsfutureprofits)TradeoffsamongAERstrategies(e.g.,howacquisitionmayaffectretention),Palmatier,21,CLVApproach(AustraliaandNewZealandCMOSurvey),Surveyconductedon255CMOsandmarketingdirectorsinAustraliaandNewZealandThosewho“alwaysmeasurethelifetimevalueofeachcustomer”achieveda16%averageincreaseintheirannualmarketingbudgetascomparedto0%forthosewhodonotmeasureit.75%ofthemarketersareengagedinsomelevelofCLVeffortwithintheorganization,Palmatier,22,CLVAccountsforVaryingProfitsAcrossCustomers,Palmatier,Beyond80/20rule:firmsearn150%oftheirprofitsfrom30%oftheircustomersCLVcapturesthesedifferenceinyourexistingcustomerssoyoucanacquire,expand,andretainthe“bestcustomers”,TheRightCustomers:Acquisition,Retention,andDevelopment(HBRPress),23,CLVAccountsfortheTimeVaryingProfitsofYourCustomers,Palmatier,Onaverage,annualearningstypicallyincreaseoveracustomerslifeduetocross/up-sellingBut,somecustomersaremorecostlytoacquireorretain(loweringprices,highservicelevels),TheRightCustomers:Acquisition,Retention,andDevelopment(HBRPress),24,CustomerLifetimeValue(CLV)Analysis,Needcashflow(sales-costs)forindividualcustomersorgroupofcustomersCalculateCLVofeachcustomer:WhereCFi,t=netcashflowgeneratedbythecustomeriattimetT=timehorizonforestimatingtheCLVd=discountrateCLVisthe“value”added,byanindividualcustomer,tothecompanyCLVapproachisaformofcustomer-centricaccountingwherefirmsvalueisthesumofallitscustomersCLV,Palmatier,25,SimplifiedCustomerLifetimeValueAnalysis,SeveralsimplificationsmakeCLVcalculationsevenmorestraightforwardAssumingthatTinfinityandthatthecontributionmarginandmarketingcosts(weak)donotvaryovertimeAssumingthatthecontributionmarginandmarketingcostsdonotvaryovertime,theCLVindollarsfortheithcustomerreducestojustfiveinputs:Mi=marginforithcustomerin$(sales$andmarginas%)Ci=annualmarketingcostforithcustomerin$ri=retentionrateforithcustomerasa%d=discountrateasa%Ai=acquisitioncostforithcustomerin$,Palmatier,26,CustomerLifetimeValue(CLV)Analysis,Thismethodquantifiesthefuturediscountedprofitabilityofacustomer.Itbreaksdownfirm-orproduct-levelprofitabilitytothecustomerlevel,enablingacustomer-centricapproach.,DAT3.3,Description,Toidentifywhichcustomersareworthacquiringandretaining.Todeterminewheretotargetmarketingprogramstomaximizethefirmsreturnonmarketinginvestments.Tounderstandthe“true”valueofacustomertoafirm,includingbothrevenuesandcosts.,WhentoUseIt,Customerlifetimevalueisthedollarvalueofacustomerrelationship,accordingtobothitspresentvalueandtheprojectedfuturecashflowsfromtherelationship.Thecalculationprocessconsistsofthreesteps:(1)estimatingtheremainingcustomerlifetime,ornumberofyearsoverwhichacustomerislikelytomaintainarelationshipwiththefirm,normallyaccordingtoretentionrates;(2)forecastingnetprofitsfromthecustomeroverthepredictedlifetime,and(3)calculatingthenetpresentvalueofthefutureamounts.BecauseCLVrankscustomersonthebasisofprofitability,itcantargetmarketingcampaignstowardthemosthighvaluecustomers.TheCLVformulaisgivenasfollows.Bothcurrentandpotentialcustomerscanbesegmentedaccordingtoexpectedlong-termprofitsorCLV.ThegraphbelowplotstheCLVdistributionoffirm,whichconsistsofinactivecustomers(lowtonegativeCLV),activecustomers(positiveCLV),andhighlyactivecustomers(veryhighCLV)showsthattherightportionofthegraphbelowhighlightafirmsmostactivecustomers).Firmscanusesuchagraphtoidentifyandtargetthemostprofitablecustomersformarketingretentioncampaigns.,where:=CustomerLifetimeValueMi=marginforithcustomerin$Ci=annualmarketingcostforithcustomerin$ri=retentionrateforithcustomerasa%d=discountrateasa%Ai=acquisitioncostforithcustomerin$,AmanagerofacablecompanywantstodetermineifitisstrategictoacquiretheBrettfamily,byestimatingtheirhousehold-levelCLV.Themanagerestimatesthatitwillcostthecompany$65(A)togettheBrettstoswitch,andtheBrettswillgenerate$100profiteachyear(M),witha$10annualmarketingcosttoretainthem(C).Theestimatedretentionrate(r)is65%,andthecurrentdiscountrateis5%.(d).Fromtheformula,theCLVfortheBrettsis$235,whichsuggeststheBrettsonnet,areprofitabletothecablecompany.,CLV,=1+i,27,Palmatier,Example:RBC(Canada),RoyalBankofCanada(RBC)IdentifiedmedicalstudentsashighCLVcustomersImplementedaprogramtosatisfytheirneedsearlyduringtheprogressionoftheircareers:productssuchascreditcards,helpwithstudentloans,andloanstosetupnewpractices.Inthefirstyear,RBCsmarketshareinthissegmentincreasedfrom2%to18%andaveragesaleswerefourtimeshigherthanaveragecustomers.Thesecustomerswerealsoveryloyal.,Palmatier,28,SomeGeneralizationsonAERStrategiesfromCLVAnalysis,AERstrategythatmaximizesCLVmaximizesneithertheacquisitionratenorretentionrateInvestmentsincustomeracquisitionandretentionhavediminishingmarginalreturnsUnderspendinginacquisitionandretentionismoredetrimentalandresultsinsmallerCLVthanoverspendingAsuboptimalallocationofretentionexpenditureswillhavealargerdetrimentalimpactonlong-termcustomerprofitabilitythansuboptimalacquisitionexpenditures,(Kumar2005),Palmatier,29,CustomerReferralValue(CRV),Whatisthelifetimevalueofacustomerbringingyouanothercustomer?HighestCLVcustomersdonotalwaysgeneratethehighestCRV(weaknessofCLV)“Advocates”realvalueishigherthanaCLVwouldpredictsoyouneedtoprotectthesecustomers(3xmoreinonestudy)Identifyadvocates:protect,enable,expandReferralprogramsHowtobuildadvocates(Apple,BMW,notWal-Mart),(Kumar,Peterson,andLeone2007),Palmatier,30,RFMAnalysisis“PoorMans”CLV,DirectmarketershavebeenusingasimplifiedversionoftheCLVfordecades,targetingcustomerstoreceiveexpensivecatalogmailings.Theyusethreereadilyavailablecustomerbehaviors:RecencyortimeelapsedsincelastpurchaseFrequencyofpurchasesinlastperiodMonetarypurchasesinlastperiodTheseRFM(recency,frequency,andmonetary)variablesputcustomersinrank-orderedgroups,basedontheirvalueinthepastyear(notbymodelingbutbyrank-ordersorting)Usingtheprofitsgeneratedfromatestmailingtoafewcustomersfromeachgroup,directmarketersthenmailthecatalogonlytothegroupswithanacceptablereturnoninvestment,Palmatier,31,RFMCodeConstructionWhereHigherNumbersareBetter,Palmatier,R,32,TestofaExpansionStrategyUsingRFMAnalysisforMailing,Palmatier,RFMCell,BreakevenAnalysis,CatalogmailingisabovebreakevenforcustomerswiththeseRFMcodes,33,LostCustomerAnalysisInformsAERStrategies,Afirmcontactscustomersthathavemigratedaway,toidentifythecauseforthischange,thenworksbackwardtofixtheproblemandensureothercustomersdontleaveforthesamereasonTakesasignificantnumberoflostcustomersbeforeafirmrecognizesthatitisntjust“normal”customerchurnbutratheranindicationofanunderlyingproblemThree-stepprocess,whichprovidesinsightsintobothstrengthsandweaknesses:Firmssetregularintervalsforcontactinglostcustomerstoidentifythecauseoftheirtransition,wheretheywent,andpotentialrecoverystrategiesIfthelostcustomerisnotinthefirmsmaintargetsegment,firmscould:ChangetheiracquisitioncriteriaEvaluateanexpansionstrategytoaddressanewsubsegmentofcustomersIfthelostcustomerisinthefirmstargetmarket,firmsshould:FixtheproblemImplementretentionstrategiestobuildbrandandrelationalloyaltyAchoicemodelcanbenefitthelostcustomeranalysis,andcaninformanalysesacrossallAERstages,becauseitpredictsthelikelihoodofobservedcustomerchoices/responses,usingdataaboutthatcustomerscharacteristicsandpastbehaviors,aswellasthefirmsmarketinginterventions,Palmatier,34,WhatareChoiceModels?,Analysisapproachthatattemptstodeterminetheimpactofdifferentfactors(price,promotion)onconsumersindividualchoices(joining,crossbuying,leaving)Mostpopularindividual-levelresponsemodelUsespastbehavioraldataNoneedtosurveyorgetcustomerinput(infersweightsfrompastcustomersbehaviors)DeterminesprobabilityofchoicesandelasticitiesofmarketingvariablesWhileregressionanalysisIsnotanindividualmodelandusescontinuousoutcomesGivesweightsofinputs,butnotprobabilitiesorelasticitiesDoesnotuse“logitmodel,”whichisbetterpredictorofhowpeopleactbycapturingdiminishingeffects(inputshavelesseffectasyoudoitmore),Palmatier,(SeeDataAnalyticTechnique3.3formoredetails),35,Choice(Logit)ModelsIntegrateImportantCharacteristicsofConsumerBehavior,AssumesthatconsumersmakerationalchoicesbasedontheirindividualutilitywithadiminishingsensitivityformarketingeffortThus,marketinghasthehighesteffectonpeoplewhoare“sittingonthefence”(i.e.,probabilityof.5ofchoosinganalternative),Palmatier,(SeeDataAnalyticTechnique3.2formoredetails),36,ChoiceModelsareExcellentforDetermining“Best”AERStrategies,AfterdeterminingAERpositioningforeachstageandrankingpersonasonCLV,thenyouneedtodevelopeffectiveAERmarketingstrategiesUsedatabaseofpastmarketingactionsanddemographicslinkedtoactualcustomerresponses(choices)inastageasinputtochoicemodelChoicemodelwillprovide:Elasticityforeveryinputvariableonoutcome(e.g.,howdoesage,kids,credit,anddirectmailimpactchoice)Elasticity=%changeinoutput/%changeininputProbabilitiesofcustomerschoice(probabilityofupselling,retaining,andcanrunonlistsforacquisitiontargeting)Latentclasschoicemodels:“clusters”andrunschoicemodelatthesametime(segmentsonelasticitytoIVs,samethingsworkforsegm