by Jim Lenskold
Building Profitable Customer-Centric Strategies
Our high-impact processes for becoming more customer-centric and creating innovative strategies will be valuable only if we can effectively deliver on these profitably.
Marketing return on investment (ROI) techniques allow us to understand the profitability dynamics across a broad range of strategies.
How do our targeting, offers and quality of touchpoints affect the customer value generated? How do our choice of contact channels and timing in the customers’ decision process impact our ability to positively change buying behaviors? What modifications to our customer-centric strategies can improve our ability to generate profitable relationships?
An ROI analysis is critical, but also challenging, when assessing the impact of improving our focus area of customer insight. Capturing intelligence from customers requires an investment that can generate returns in real time or in subsequent contacts.
In this third article of the four-part series, we now progress on our journey to Phase 3 of building customer centricity with increased customer insight.
As a reminder, our process involves the following four phases:
- Identify key strategic customer-centric opportunities and challenges.
(See Part 1 by Michael Lowenstein.)
- Focus staff innovation and creativity to develop solutions for these challenges.
(See Part 2 by Jeff Mauzy.)
- Ensure and refine profitability potential of new initiatives. (this article)
- Address leadership and performance issues to ensure the company can meet its objectives around these challenges. (See Part 4 by Pam Harper)
This article series has now taken you through a strategic understanding of customer centricity and an assessment of your customer insight potential and through the inventive process of identifying new opportunities to capture and leverage customer insight.
With several ideas for bringing customer insight into your organization, your next step is to assess the ROI potential of the top set of solutions to refine the profit potential of each and prioritize your resources.
The final article, next week, covers Phase 4, involving the critical steps of preparing your organization to deliver on these solutions.
Key Factors Driving Profitability
Before we get into the five steps in Phase 3 and applying them to the case example, we must first understand the key factors that will drive profitability for customer insight initiatives.
During the innovation stage, the objective was to creatively generate new sources for capturing intelligence from customers and creating insight that could enhance the way we communicate and sell to customers.
As you learn more from customers about their needs and preferences, you have the opportunity to better target your marketing messages, offers and channels, which ultimately leads to reduced marketing expenses and increased conversion rates.
The key factors that will drive the profitability of customer insight initiatives include these:
- Reaching high-value customers and prospects
- Capturing intelligence on a critical mass of customers to justify the fixed costs of setting up and managing the program
- Generating incremental profits from increased sales to new customers, higher customer retention, selling more to existing customers or winning back lost customers
- Reducing costs of delivering solutions and servicing customers
- Capturing intelligence cost-effectively
- Building the ability to influence customer profitability over time
The marketing ROI equation, where NPV represents Net Present Value, is as follows:
ROI = (NPV Gross Margin – NPV Marketing Investment) / NPV Marketing Investment
The Gross Margin is primarily made up of the incremental profits generated from the customer insight investment beyond the baseline profits that would have otherwise been generated. It is dependent on the number of customers for which intelligence is captured and used, the increase in sales conversion and the value of the sales generated.
Incremental profits are also generated as the costs of goods is reduced, either through a decrease in the product or service costs or a decrease in servicing customers. This provides a higher profit margin for the same level of sales and is applicable for certain types of customer insight that identify service and delivery gaps.
Efficiency gained through reduced marketing costs, such as when customer insight identifies a set of customers that should not be targeted, shows up when the ROI analysis is run for the marketing program with and without the impact of the customer insight program (the cost reduction shows up as a decrease in the marketing investment).
Of course, the total investment amount required to capture and apply the customer insight will drive the ROI as well. Certain strategies will require minimal incremental cost, and others will require a more substantial change.
The ROI assessment steps are these:
- Define the financial parameters and alignment with business objectives
- Assess the market segment value and expected profit potential
- Run the ROI analysis (initially using rough assumptions)
- Determine more profitable variations to the strategies proposed
- Use the ROI assessment as part of the prioritization and selection of the optimal strategy
The Example of Midwest Telecom
The first two stages of the process established our business priorities and used innovation techniques to develop our top strategies to address those priorities. At this stage, Midwest Telecom is considering three customer insight initiatives:
- Option A: Capture intelligence in acquisition channels and better target cross-sale marketing activities to eliminate low-potential prospects and personalize marketing messages to customer needs
- Option B: Include a customer survey in online transactions to identify service problems, generate service calls to save vulnerable customers and build a proactive response program to reach others who have problems but do not make contact on their own
- Option C: Capture intelligence on customer needs and preferences in the customer contact channel to identify vulnerable customers, model vulnerability and create a retention-marketing program specifically for highly valuable, highly vulnerable customers.
A five-step marketing ROI analysis is then used to unlock the full profit potential of each strategy.
1. Define financial parameters that align with business objectives
The ROI assessment must be guided by financial parameters that align with the established business objectives. These financial parameters are applied to the strategies developed in the innovation sessions to drive modifications and will also be used in the prioritization and selection process.
Financial parameters can include these:
- What budget is available for your initiatives?
- What is the timing for the decision-making process?
- What are the requirements for the timing of incremental profits? How will short-term and long-term returns be balanced?
- How will incremental customer value be measured? What short-term customer behaviors can we use to estimate long-term value so decisions can be made promptly?
- Are there strategic priorities that will influence the prioritization and selection of your initiatives?
In our Midwest example, the company set an initial budget for establishing the customer insight process at $200,000. It decided to allow a six-month testing period, after which a larger budget would be provided to grow the selected initiative and test other customer-centric strategies. The company planned to assess the impact of increased customer profitability over a three-year period using an annual discount rate of 15%.
The change in share of customer and research on competitive preference over the initial six-month trial would be used to project the three-year impact. Strategically, Midwest placed a higher importance on profits generated from customer retention, since there was a reasonable chance that customer defection rates could increase.
2. Assess market segment value and profit potential
Typically, your choice of market segment to target has the most significant influence on the profit potential. The profit potential is primarily driven by the spending patterns of the customers targeted and the incremental impact (or net conversion rate) that can result from the marketing initiative.
In the first two phases of the outlined process, strategic assessment and innovating solutions, there is certainly a focus on high-level segments—our Midwest example defined some key high potential segments as defecting customers, customers with service problems and customers with low repeat purchase behaviors. In this third phase of a financial assessment, the assumptions to gauge customer profit potential must get more precise.
You must consider the following:
- What customer value segments are reached through each channel being considered for capturing customer intelligence? Do some touchpoints reach higher-value customers?
- Do you have enough intelligence now to identify customers with the highest potential value? In some channels, such as customer service, the time and effort investment to capture additional information can be restricted to just high-value customers.
- What is the potential for having an impact on the buying behaviors of different customer segments? For retention efforts, how well can you reach vulnerable segments and have a lasting impact on decreasing the defection rate?
- How many customers in the target market definition can be reached in total through each initiative?
When Midwest Telecom assessed the profit potential for each of the three initiatives under consideration, it produced the following conclusions:
Option A: Capture intelligence in acquisition channels for better cross-selling
- Defection immediately following acquisition is high, indicating high profit potential for a solution that addresses this issue.
- The total quantity reached is large since customer acquisition represents 30% of Midwest’s total customer base annually.
- Customer value is stratified across all value segments, including a higher proportion of low-value customers, since the sales organization is driven to produce volume without concern for customer value.
- The potential to make an impact on retention is a high risk, since the problem lies in targeting the wrong segments in the acquisition phase. Collecting intelligence on customer needs during this phase is estimated to have little benefit in changing defection rates.
Option B: Online survey on service problems for proactive response
- Existing customers can easily be segmented to reach high-value customers using their billing history.
- The online survey process to capture insight on service problems has very low cost.
- The impact is likely to be very positive in the retention of existing customers as well as future customers who receive better service based on proactive changes to service quality.
- The quantity reached is very low since only a small percentage of customers that experience service problems actually take the time to contact Midwest online.
Option C: Identify vulnerable customers in contact channels for retention marketing
- Existing customers can easily be segmented to reach high-value customers using their billing history.
- The potential to make an impact on retention is high and risk is low. The company is confident that when critical intelligence on customer needs and preferences is known, its model for scoring vulnerable customers becomes much more accurate.
- The quantity reached is reasonable since higher-value customers tend to call in to call centers more frequently.
This initial understanding of the profit drivers and dynamics helps concentrate the ROI analysis on those initiatives that are viable.
3. Run the ROI analysis
Using rough assumptions, an ROI analysis is run for each initiative using the initiative costs, the expected impact and the average profit per customer. Any initiative that does not meet the company’s ROI threshold must be eliminated or modified.
With a customer-insight initiative, caution must be taken to run the ROI analysis accurately. Collecting customer intelligence does not generate increased profits on its own—it requires additional investment in customer-centric marketing programs that will retain, grow and acquire additional profits.
There are two primary approaches to projecting and measuring the ROI for this type of initiative. You can run an Incremental ROI analysis to determine the incremental returns that are generated from investment into the customer insight process. For example, market testing can be used to assess the retention rate of a program with and without the customer insight captured.
The second approach is to run an Aggregated ROI analysis, which assesses the total investment into both the customer insight program and the subsequent marketing activities that leverage the insight to drive results.
As presented in the following table, the Midwest Telecom ROI analysis shows that Option A is too costly to show a positive ROI. Option B has a high ROI but a small profit based on its limited size. Option C has a positive ROI that is not as high as B but shows larger total profits.
The objective is to maximize profits and not ROI, so the first run of the analysis points to Option C as the top choice.
For help in understanding how the ROI was constructed, a simplified calculation is shown below. The actual ROI analysis over a three-year view is more extensive and includes an analysis retention rates by various customer-value segments, the timing of retention and customer save rates on a monthly basis, and the impact of applying customer insight to multiple marketing initiatives.
You can see in the example analysis that the ROI of the customer insight analysis is run aggregated with thecore marketing program as well as incremental. The incremental analysis shows that the $1.2 million investment into customer insight has a significant impact over the current program and leads to very positive financial returns.
4. Identify more profitable variations in the strategies
Once the ROI analysis is run, you have the opportunity to easily run alternative scenarios. Slight variations in the strategies developed can have significant impact on the profit potential. Consider how the following types of strategic modifications to any customer-centric initiatives can improve the ROI potential:
- The target segment can be either tightened to increase the average customer value or expanded to reach a larger audience.
- The investment can be tiered by customer segment so that additional contacts or effort can be put against higher-value segments where better returns exist.
- Alternative channels for capturing intelligence can be considered based on cost and impact.
- As the value of certain intelligence is recognized, it may justify more proactive outbound contacts to supplement reactive inbound contacts.
- Special offers and incentives can improve data collection efforts enough to justify the cost.
- Tighter integration with other marketing activities can improve the transformation of insight into incremental value.
Alternative strategies were assessed in our Midwest Telecom example. For Option A, the problem area was in the acquisition targeting. The ROI scenarios supported the need to target the right customers with lower defection rates. In addition to the target shift, compensation for the sales team had to be partially based on long-term customer value to reduce the high churn and low cross-sell among new customers. Until the core strategy for Option A was completed, there was no need to consider this for a customer insight program.
Since Option B had high profit potential but low total impact, the modifications considered for this program consisted of exploring alternative channels to reach more people with service problems. For the highest-value customer segments, outbound retention calls to assess the quality of their service was found to not only uncover unreported service problems but also influence retention with a positive interaction and serve as an opportunity for capturing even more customer intelligence.
5. Use ROI to prioritize and select the optimal strategy
The ROI analysis in step 4 provides financial intelligence that will feed into the prioritization and selection of the best strategy.
The tight integration between the various phases in the overall process is critical for surfacing the ideal strategy:
- In Phase 1, the company understands its opportunities and challenges for bringing customer-centricity into the organization.
- The innovation activities in Phase 2 provide the team with creative solutions that can meet the company’s objectives.
- The ROI process in this Phase 3 then serves to expand your options as variations to the ROI model are explored, and then narrow the selection to those with the best profit potential.
The ROI assessment process for Midwest Telecom showed that Option C offered the highest profit potential and should therefore be selected for the pilot program. Still, the company is aware that Option B is very profitable and should be pursued for market trial as soon as budget becomes available.
Meeting the business objectives and ROI criteria, however, is not enough. The often-overlooked stage is understanding whether your organization is prepared to deliver on the proposed strategies. This is especially important when you are innovating new strategies that will require new processes and multi-functional project teams.
In the next article of this series, Pamela Harper presents Phase 4 in the process that consists of a structured methodology for anticipating and avoiding barriers to success.
The article series was a collaborative effort of Michael Lowenstein, Jeff Mauzy, Jim Lenskold, and Pamela Harper.