August 26, 2008

Long-Term Profit Myth

I spent yesterday reading numerous articles about cross-selling and up-selling.

I've also analyzed an awful lot of customer data over the past twenty years. In the past four years, brands have largely increased sales by getting customers to spend more. Of course, we can't borrow against our homes anymore --- so spend per customer stopped increasing, and the era of psuedo-growth ended.

We spend a lot of time trying to get customers to spend more. In fact, we spend most of our efforts trying to get customers to spend more.

We have an opportunity to simply find new customers.

Oh, it is expensive to find new customers, right? The cross-sell and up-sell folks tell us that it costs seven or ten times more to obtain new customers than it costs to retain an existing customer.

Most of the brands I work with retain fewer than fifty percent (and often, fewer than forty percent) of last year's customers. When this is the case, the profit relationship show in the image above plays out over time. In other words, future profit is largely generated by future new customers, not by today's customers.

While it is important to retain existing customers, it is generally more important to find new customers. In fact, when retention rates are under sixty percent, the order of importance is as follows:

  1. Acquire New Customers
  2. Retain Existing Customers
  3. Get Existing Customers To Spend More
Getting existing customers to spend more simply benefits profit today. Some believe that getting a $100 customer to spend $115 increases the long-term value of the customer. I'd rather obtain a new customer than spend money to get customers to cross-shop or fall for an up-sale opportunity.

Retaining more existing customers sounds romantic, but in reality, is exceptionally hard to do. Seriously, how do you get 59% of your customers to buy from you next year instead of the 53% you've always enjoyed? How do you do it? You can advertise more, that doesn't guarantee profit though, does it? And the pundits who tell you to have exceptional product at a fair price would be hard pressed to put that advice into play, wouldn't they?

Finding new customers is something you can partially control, right? You can spend more on paid search, or portal advertising, or e-mail marketing, or catalog marketing, or social media --- and obtain new customers in the process.

And when you acquire a new customer, you obtain additional sales in year two, year three, year four, and year five. There's a multiplicative effect, a long-term effect, that benefits your brand.

The marketing community perpetuate a myth about increasing value among existing buyers, preaching the importance of catering to your best customers. It's always good to treat your best customers well. It's just as important to constantly find new customers. In fact, your long-term health depends upon new customers.

4 comments:

  1. Anonymous10:11 PM

    But aren't we doing something wrong? Isn't our offering so bad that we are not building (long term) loyalty? If 1 in every 2 people that walk through our door never come again don't we suck?

    It is reassuring to know that are performing comparably relative to the large brands you have dealt with over the years - but I cannot help feeling that something is terribly wrong with our model. I've been doing the chicken little dance recently based on figures very similar to the ones you present here.

    Admittedly our market has a high (~40%) annual churn rate - but is the best we can hope for an eternal legion of impulse buyers?

    It makes me wonder about the value of our next mail out.

    Any tips for picking who is likely to respond a second time? :)

    Cheers

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  2. Nah, we don't suck, that's just how customers behave. Sure, if you're Wal-Mart, you'll keep 97% of your customers. Or if you're a cell phone company, or cable television provider, you'll keep 97% of your customers.

    The average garden-variety catalog or e-commerce or retail brand is lucky to hold on to half of last year's customers.

    Fortunately, a ton of profit lies in improving the annual retention rate from 60% to 62% without increasing expenses. The hard part is doing that without increasing expenses!

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  3. I completely agree with a combination of acquisition and customer retention/up-sell strategies. Yes, it IS important to keep your funnel filled with new customers. But, it's equally key to keep your existing customers happy.

    It truly doesn't have to be one or the other (acquisition vs. retention).
    Suzanne

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  4. Oh, and another thing--churn in the wireless and cable industries is a completely different animal than churn in the catalog industry. Losing a customer that pays your bill each month is something different than not receiving an order from a prior customer.

    In other words, a consumer can order from more than one catalog, and they always buy from more than one retailer but they rarely carry more than one cell phone.

    Not sure that you can equate these industries, in terms of retention strategies.

    On the plus side for catalogers/retailers, I do think that there are all kinds of opportunities to sell prior customers more stuff. I'd like to see more even more segmentation that's translated into the development of the message that's gonna resonate with me, and one that's delivered through the right channel--the one I'll respond to.

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