The New Power in Retailing
By Brian Woolf
Hardback, published in May 1996
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CHAPTER TWO
The
two principles of
Customer
Specific Marketing
In the previous chapter we saw examples of
how customer behavior is influenced by the rewards offered, and how some food
retailers have introduced customer specific pricing because they see it as an
advance over their previous one price fits all strategy.
The first chapter was presented as a "flesh
and blood" lead-in to the two principles of customer specific marketing which
will be discussed in depth in this chapter. These two principles
are:
1) All customers
are not equal.
2) Behavior follows
rewards.
We shall discuss them in
turn.
1)All
customers are not equal.
Customers buy different items when they
visit a store. They spend different amounts. Some customers visit regularly,
some infrequently, and some just once. Some were in your store today; others
last shopped with you months ago. Some come because of your advertised specials,
some come because it's convenient, and others come because they prefer your
total offering. Customers are different, and they yield different profits-and
losses. Let's see how different our customers really are.
A
look at five customers
A food retailer in the United States has a
customer profile similar to that shown in Table 2-1. In this table, the five
customers' names each represent one-fifth of the customers in the database. The
top quintile (20%) of customers, represented by Lucy Loyal, spends per week
(SPW) about $53 with a gross profit of about 25%. Lucy's shopping life with us
is over seventeen years. This means that Lucy Loyal will spend this year about
$2,756 ($53 x 52 weeks = $2,756) in our stores, for an annual gross profit of
about $689 ($2,756 x 25% = $689).
Table 2-1: Customer
Profile:
Customer Name |
SPW ($) |
GP (%) |
Stay (Yrs) |
L/T GP ($) |
|
|
|
|
|
1. Lucy Loyal |
53 |
25 |
17+ |
11,713 |
|
|
|
|
|
2. Russell
Regular |
27 |
22 |
10 |
3,089 |
|
|
|
|
|
3. Stuart
Split |
8 |
18 |
4 |
300 |
|
|
|
|
|
4. Sherry
Cherry |
3 |
16 |
2+ |
50 |
|
|
|
|
|
5. Carol
Convenience |
1 |
15 |
1.5 |
12 |
Stuart Split, representing the middle
quintile of customers, spends about $8 per week (about $416 over the course of a
year) with a gross profit percentage of 18%, yielding about $75 in annual gross
profits.
Carol Convenience, representing the bottom
quintile (comprising many convenience and occasional customers), spends over the
course of 52 weeks, about $1 per week or about $52 in annual sales. With a gross
profit percentage of 15%, this is about $8 in annual gross
profit.
The other two customers, Russell Regular and
Sherry Cherry, have results which fall in between those of the above three
customers.
It becomes blindingly apparent that with a
customer profile like this, charging the same price and offering equal benefits
to all five customers not only doesn't make sense from an equity viewpoint, but
also makes us extremely vulnerable! Any competitor with a better offer-bundle,
in the form of a combination of lower prices and greater benefits aimed
specifically at our Lucy Loyals, could steal these most profitable customers
(whom we are currently over-charging to subsidize our Sherry Cherrys and Carol
Conveniences).
Of course, this is what warehouse clubs have
done over the past decade. They lured away a significant portion of the
traditional retailer's best (high spending) customers by offering them the
lowest prices on large item purchases. The warehouse clubs focused on the high
spending, high profit segment and left the low spending, low profit customers
with the traditional retailers. Unable to fight back because of their inability
to differentiate their offers easily, traditional retailers suffered.
But the justification for differentiating
becomes overwhelming when we consider how much in sales and gross profits each
of the customers in Table 2-1 contribute over their shopping lifetime. Lucy
Loyal regularly shops in our stores for over seventeen years; Stuart Split about
four years; and Carol Convenience about one and a half
years.
This means that Lucy Loyal, our typical top
quintile customer, spends about $41,340 over her shopping lifetime with us,
providing about $10,335 in life time gross profits (L/T GP). This compares to
Stuart Split's $1,664 in lifetime sales and $300 in lifetime gross profits, and
Carol Convenience's lifetime sales and profits of about $78 and $12,
respectively.
What a dramatic difference in sales and
gross profits from customers who, traditionally, have all been charged identical
prices! What a great opportunity it presents to a retailer to reallocate his
advertising and promotional markdown monies in favor of his Lucy Loyals and
Russell Regulars, and away from his Sherry Cherrys and Carol Conveniences, now
that he has the information and tools to do so!
Yet, as you know, the practice of many food
retailers has been just the opposite, with priority given to the convenience
shopper. For example, a Carol Convenience can walk into most food stores, buy
the specials (some of which may be below cost), and then go through the express
lane receiving priority service, while the big spending, high profit Lucy Loyals
wait in lines two or three customers deep!
Why
have we treated customers the same?
Why, then, in the past have we treated
customers all the same and offered them merchandise at identical prices? The
answer, quite simply, is because we didn't have a cost-effective system to make
different offers to our different customers.
But that has now changed-because technology
has given us new tools. And as Daniel Burrus, the author of Technotrends,
reminds us, "When the tools change, the rules change."
Now that the tools of retailing have
changed, so too must the rules. And all customers are equal, the dictum of the
past five decades of mass marketing, is the first rule to change. It is replaced
by its antithesis: all customers are not equal!
Differentiation
is now accepted and expected
Customers have already accepted this new
rule. They understand that customers are not equal and know that different deals
for different customers make sense. In fact, because of their exposure to the
proliferation of differentiated marketing practices already in our society
(particularly in airlines, hotels and car rentals), customers not only accept
it-but expect it.
Recently, one leading food retailer
commissioned an external survey of its customers some months after introducing a
frequent-shopper card. The company wanted to learn their customers' thoughts
about his new program. Two of the typical responses were:
"Quite right! You should reward your main
shoppers, because they spend more!"
"I spend over $3,000 a year here! You should
reward us for all of this!"
This company's customers were telling them
that not all customers are equal and that they have accepted its direct
implication of differentiated pricing.
Scott Ukrop, Vice President of Marketing,
Ukrop's Super Markets, Richmond, Virginia, tells us (in his speech in Chapter
12) of similar findings at his company. He said that:
Customers like to be treated like the
individuals that they are. We were pleasantly surprised that our customers did
not mind receiving different offers than those of their neighbors. This had been
a major concern in our organization. Customers accepted the fact that the offers
were based on their purchases.
Such comments should allay the fears of
those retailers who have been taught from their very first day in retailing to
treat every customer the same-regardless of their economic contribution to the
company.
The
bottom line-all customers are not equal
All customers are not equal. We must
incorporate this fact in our business strategy by de-averaging our customers and
our offers to them, both to recognize their diversity and to optimize our
profitability. We should not hesitate to introduce differentiated marketing-it
is already accepted and expected.
2)Behavior
follows rewards.
Man is an economic animal in search of self
importance. Thus, our behavior changes in response to the economic and
"egonomic" (to use Faith Popcorn's apt expression) rewards around us. We respond
to positive rewards and avoid negative rewards.
This is abundantly demonstrated in our
children. We continually influence their behavior with a mix of positive ("If
you do this, I'll let you stay up late!") and negative ("If you do that, you'll
be grounded for a week!") rewards.
Consider how our own behavior is influenced
by our desire to maximize our frequent-flyer miles total. We choose one airline
over another. We accept longer layover times at airports to connect with our
favorite air miles provider. We prefer our airline affinity credit card over the
proprietary card when shopping at our local department store. We choose hotels
and car rental companies that offer air miles on our preferred airline. And when
we check in at airports, we take the initiative to ensure that our
frequent-flyer number has been recorded. We don't wait to be asked-it's in our
self interest to ensure that our number is recorded!
Or consider this. How many of us let our
magazine subscriptions lapse because we know that we will be offered an
unbelievable, last-ditch, low subscription price 6-12 weeks after the
subscription has lapsed? We have figured out that we will be rewarded for not
renewing our subscriptions on time and have altered our behavior
accordingly.
General Nutrition Center Inc., a chain of
mall-based health stores, offers a Gold Card for an annual fee of $15.00,
entitling members to 20% off their total purchases on the day they sign up and
on the first Tuesday of each month. Want to guess which day of the month is the
busiest? It's the first Tuesday!
We
are like Skinner's pigeons
B. F. Skinner, one of the twentieth
century's giants in the behavioral school of psychology, devoted his life to
understanding how human behavior can be modified by altering the mix and value
of the rewards in our lives. Like most psychologists, his early work was with
laboratory animals, where one of his most celebrated successes was teaching
pigeons to play table tennis through a series of positive
reinforcements!
After several years of studying changes in
customer behavior (drawing on the information in various retailers' databases),
I'm sad to relate that we human beings are really a lot like those pigeons! We
respond very readily to the changes in the reward structures around us! Indeed,
our behavior changes in direct proportion to the increases and decreases in the
size of the rewards offered.
Let me illustrate:
.
One caring retailer has
a program which gives senior citizens 10% off any purchases they make on
Mondays. When analyzing the customer database, we found that two-thirds (67%) of
the senior citizens' weekly spending at that company now occurs on Mondays. This
is five times the rate of the other customers, who spend only 13% of their
weekly total on Mondays. Behavior follows rewards.
.
One retailer offered a
free turkey to customers spending an average of at least $50 a week in the two
months prior to Thanksgiving. The result? The number of households spending over
$50 per week skyrocketed 20% over the preceding year! Behavior follows
rewards.
.
When one retailer
announced that all advertised specials would henceforth be available only to
customers presenting their cards, the percentage of company transactions on the
card jumped 8% that very week. Behavior follows rewards.
.
Another retailer told
his customers that 1% of their spending during the course of the year would be
donated to the church of their choice. Result: the participating cardholders
increased their annual spending more than 5%. Behavior follows
rewards.
.
One retailer introduced
an employee discount program based on household spending. Both the number of
employees using a card and their total spending jumped more than 20% over the
previous year. Behavior follows rewards.
Reward
the behavior you seek
Quite simply, if behavior follows rewards,
then we must reward the behavior we seek-and not the opposite, as occurs too
often. The promotional activity of department stores over the past forty years
illustrates this well. With their one-day sales, weekend sales, week-long sales,
end-of-season sales, and other similar promotions, they taught customers not to
shop in their stores unless they were having a sale! In other words, they were
rewarding customer promiscuity rather than long-term loyalty (which, we assume,
is what they really desired). This contradictory behavior is called the folly of
rewarding behavior A when we really want behavior B!
Applying
the principle
Our first task as retailers in applying the
principle that behavior follows rewards is to ask ourselves two questions:
1) What customer
behavior are we currently rewarding?
2) What customer
behavior do we wish to reward?
To assist in answering these questions,
consider:
.
Do we want customer
loyalty or promiscuity?
.
Do we want better or
more customers?
.
Do we want high or low
spending customers?
.
What is more important
to us-increased sales or increased profitability?
.
What changes in behavior
are required to hold onto more of our good customers and lengthen their average
stay with us?
.
Of the behaviors we have
chosen as our goals, which are the most profitable ones to be
rewarding?
The
bottom line-behavior follows rewards
The principle that behavior follows rewards
isn't new, of course. It's as old as recorded history. However, what is new for
retailers is that with a customer database we can make different offers to
different customers, measure the changes in behavior, and then refine our offers
accordingly.
As retailers, after we have set our
corporate goals, we must review our existing customer reward structure and
consider how it can be changed to better reward the customer behavior that moves
us closer to our chosen goals. It's folly to do otherwise! In essence, we must
water what we want to grow. But first, we must decide what we want to
grow!
Achieving
success
Like everything else in life, success is
based upon the application of sound principles. The greater the application, the
greater the success. Customer specific marketing is no different. The more you
embrace customer specific marketing and base your business strategy on its two
principles-all customers are not equal and behavior follows rewards-the better
will be your results. In other words, to achieve great success, you must make
customer specific marketing the core strategy.
Too many companies introduce
frequent-shopper card programs and don't see any profit improvement. Usually,
this is because they are just that-programs, and not a change in core strategy.
To succeed with customer specific marketing, it must become central to your
business-it cannot be an add-on to an existing marketing program. It means
abandoning a host of existing marketing practices. It means focusing resources
on the gathering of customer data so that you can make intelligent,
differentiating decisions. It means re-engineering your marketing
strategy-indeed, ultimately, your whole organization.
The
other ingredient for success
Embracing customer specific marketing as
your core strategy is the first ingredient for success. The second is the
practice of differentiation. As all customers are not equal, it is logical that
our offers should be different for different customers. The next chapter is
devoted to this single idea.
______________________________________
CHAPTER
FOUR
Think,
and act, strategically
Too many retailers practice puppet
strategies. They permit their competitors to jerk their strings, to dictate
their marketing strategy. For example, when a competitor introduces double or
triple coupons or a senior citizen's program, they do likewise. They monitor
competitors' advertisements and agonize when they are eclipsed by a penny or two
on a bananas or ground beef promotion. Rather than give their customers a
different choice from their competitors, these companies are offering just an
echo. They are but puppets, whose actions are determined by their
competitors.
One contributing factor to this common
business behavior is the lack of customer information. Without such information
the retailer's eyes are focused on his total sales figure. He has no idea what
impact his mimic responses are having on the sales and profitability of his
individual customer segments-on his loyal customers, his split customers, his
occasional and promiscuous customers, or his new customers. Or the impact these
mimic responses have on the churn and turn of his customer base.
Fortunately, this is changing. Companies
that understand their customer dynamics are switching from being puppets to
being puppeteers because they are measuring-daily, in some cases-the impact and
results of their differentiated marketing strategies.
Pulling
their own strings
One food retailer, up against some of the
toughest and finest competitors in this country, switched from puppet to
puppeteer over a year ago. Its management team now controls its own strings
because they measure the effect of each decision on their customers. Recently, I
had the privilege of asking the three top executives of this company what they
had learned since switching to customer specific marketing. Here's what they
told me:
.
"Now we don't mind
telling customers the reason some of them get better deals than others. Today,
when a customer approaches us on the store floor and asks why she didn't get a
special offer like her neighbor and then goes on about how much she has shopped
in the store, we quietly take her across to the PC at our service counter, scan
her card and find out what her shopping history has been. Usually, we find there
has been minimal activity, so we say, in a nice way, 'Well, ma'am, I'm sorry but
it appears that you have not been using your card very much because there's only
one entry here in the last four or five months.' The customer then usually
becomes flustered and says, 'But I shop here a lot anyway!' So we quietly say,
'We really would like you to use your card so that we can give you these special
offers we are making to our good customers. As you know, the more a customer
spends with us, the better the offers become, and using your card is the only
way we can know this.' And-this is something new for us-we don't then turn
around and give her the deal, which we would have done before the introduction
of our program. The bottom line is that we are no longer trying to be all things
to all people and trying to satisfy all customers in all circumstances.
Information is now an extremely powerful tool for us!"
.
"We are no longer trying
to take customers away from our major competitor. Our focus is to make money on
the customers who are already shopping with us!"
.
"We have overcome the
fear of differentiating our customers."
.
"Our good customers are
no longer subsidizing our occasional shoppers. Rather, it's vice
versa."
.
"We no longer watch
every competitor's ad every week." (The Vice President of Marketing said that
every Sunday morning he used to rush down to get the morning papers to see all
of his competitors' ads! He doesn't do that anymore.)
.
"We've found that only
the cherry pickers complained about our new rules, and then it was only a
handful of them."
.
"Our good customers love
being appreciated!"
.
"With such a program, a
company can't continue offering an Every Day Low Price program, honoring
competitors' coupons, meeting competitors' prices, having a Senior Citizens
program, and so on. You must focus entirely on this new way of
marketing!"
This company, now a global leader in the
practice of differentiated marketing, has seen a remarkable improvement in its
profitability and is now a dedicated practitioner of initiating and
differentiating, rather than imitating. It no longer cedes control of its
destiny to its larger competitors, despite its competitors' deeper pockets.
These executives now confidently pull their own strings because their customer
information has demonstrated that their differentiation strategy is paying
off!
Information-based
retailing
Just as the nature of military strategy is
changing from brute power to information-based electronic weaponry, so, too, is
the nature of retail strategy changing. Retailing, like war, is fast becoming an
electronic battlefield! Customer information and customer knowledge are now part
of our arsenal.
Does a retailer who knows who his customers
are, how often they shop, how much they spend on each visit, and when they
start-and stop-shopping with him, have an advantage over his competitors who are
without this information? Of course he does! It's comparable to sailing at night
without a compass. Quite simply, a retailer today sailing without a
well-utilized customer database is headed for the shoals of second class
performance or the depths of disaster!
Information provides enormous leverage. Our
objective should be to lever our insights and knowledge more effectively than
our competitors do. The intelligent use of information is now a competitive
advantage to those who use it to drive their businesses.
Change
the terms of engagement
One successful way to jump ahead in a stable
or stagnant situation is to change the terms of engagement. Nelson defeated the
French at Trafalgar when he surprised them by changing from traditional
side-by-side naval warfare to cutting through their ships and blasting their
unprotected bows and sterns. A great deal of military, and business, success has
occurred as a result of changing the terms of engagement.
Even in the movies we see this vividly
portrayed. One of my favorite examples is when Indiana Jones, in The Raiders of
the Lost Ark, is confronted in a narrow Cairo street by an imposing
black-hooded, scimitar-twirling thug! Things look bad for Indiana-really bad!
But after assessing the situation, Indy nonchalantly steps back, pulls a pistol
from his belt and shoots his potential assailant. He changed the terms of
engagement from what his opponent had in mind! He changed the nature of the
battle to suit his strengths.
So, too, are the early practitioners of
differentiated marketing changing the terms of engagement in their marketplaces.
They are changing the nature of the battle to suit their new weaponry-customer
information. And like Lord Nelson and Indiana Jones, they are experiencing
decided success! Their advantage, of course, will not last forever. Their
competitors will learn the power of this new form of marketing and adopt it for
their own use. In the meantime, however, like the early possessors of gunpowder,
their technological advantage is tipping the marketing balance of power in their
favor. Their challenge, of course, is to sustain their newly gained
advantage.
Hi-Lo
operators are vulnerable
Over the past forty years, two primary
pricing strategies have been prevalent among traditional retailers: High-Low, or
Hi-Lo, pricing and Every Day Low Price, or EDLP, pricing. We are now witnessing
the third wave of retail pricing-customer specific pricing-which is superior to
the two traditional formats.
Consider the typical Hi-Lo retailer today
with his large number of advertised and unadvertised specials requiring in some
companies up to 1,500 price changes a week in each store! In addition, he often
has 1,000-4,000 items reduced and listed as Temporary Price Reductions (TPR's),
ranging from a few cents to a few dollars off regular price. In addition, he may
offer discounts on all items in various categories, such as 40% off all greeting
cards. For good measure, he may also offer double coupons and possibly honor, in
true puppet style, his competitors' ad prices and coupons.
Apart from the high cost of operating this
strategy (including advertising, markdowns, executives tied up in weekly
meetings, store labor, and inventory overages), this Hi-Lo retailer gives the
same special prices to anyone who walks into the store-his regular customer, his
competitors' loyal customers, convenience shoppers who never even saw his
newspaper ad, and one-time shoppers.
This traditional Hi-Lo operator is now
highly vulnerable to a differentiated marketer who can, armed with customer
knowledge, offer a superior price package, but only to regular, higher spending
customers. This attracts profitable customers away from the Hi-Lo operator who,
in turn, replaces the lost high-profit sales by increasing his advertising,
thereby attracting more of the low-profit, promiscuous shoppers in the
marketplace. This, in turn, causes margins and profits to decline further. At
the same time, the differentiated marketer is reducing advertising costs because
he now knows of the low profitability and loyalty of the promiscuous shoppers
who are attracted, like moths, by the seductive flame of heavy print
advertising.
EDLP
operators are vulnerable, too
In contrast, an EDLP operator has lower
operating costs than a Hi-Lo operator because he advertises less, has fewer
specials, and, therefore, requires less labor. His point of difference is that
he offers customers lower shelf prices every day.
Many EDLP operators have resisted the change
to customer specific marketing. The two most common reasons offered have been,
"We want to have the lowest prices for all of our customers," and "We don't want
to add any costs or complexity to our business."
These arguments are no longer sound
because:
.
The EDLP operator can't gather any detailed
customer data. Therefore,
he can't learn his customer composition or its underlying dynamics. His
decision-making is still based on assumptions and not on facts, which places him
at a competitive disadvantage.
.
The EDLP operator charges his best and worst
customers the same price.
Even if his cost level is significantly lower, he is vulnerable to a
differentiated marketer because he is charging his $10,000 a year customer
identical prices to that of his $100 a year customer; he is charging the same
prices to the customer with an $80 transaction that he does to a customer with a
much less profitable $8 transaction!
Thus, the differentiated marketer can target
and win over the EDLP operator's best customers by offering, for example, a
quarterly discount to high spending customers. Or the differentiated marketer
can straddle the prices of the major image items of the EDLP operator by having
a lower price for cardholders and a higher price for non-cardholders. This puts
the EDLP operator in an awkward competitive position. If he responds by matching
the cardholders' lower price, the move costs him more because some of the
differentiated marketer's sales are to non-cardholders and carry a high gross
profit. If the EDLP operator matches the higher price, he loses his price image.
And by staying at his existing price, his price image is
compromised.
.
The EDLP operator can be beaten on
benefits. Because he knows
who his best customers are, the differentiated marketer can offer these highly
profitable customers non-economic benefits and privileges (which he can't afford
to give to all customers). Of course, the EDLP operator, without customer
information, cannot respond in a cost-effective manner.
.
Differentiated marketing does not have to be
complicated. As described
earlier, one leading EDLP operator, Food Lion, has already started moving to a
differentiated marketing strategy. The company's tiered pricing strategy is
simple and inexpensive to operate. Yet it provides a vehicle for the company to
gather customer data and skew rewards in favor of their higher spending
customers.
For these reasons, it seems inevitable that
EDLP operators, like Hi-Lo operators, will be forced to move to differentiated
marketing.
Think,
and act, strategically
As blunt-spoken General George S. Patton
once said: "The best way to neutralize a competitor's heartbeat is to change the
rules of play." The practitioners of customer specific marketing are doing just
that-by being puppeteers, not puppets!
As we conclude the first section of the
book, it appears obvious that the question that all retailers today should be
asking themselves is not if, but when, should they embrace customer specific
marketing? When should they adopt this information-rich marketing approach which
will allow them to truly think, and act, strategically?
Brian Woolf is a global leader in loyalty marketing and has written three definitive works on the subject, Measured Marketing: A Tool to Shape Food Store Strategy, Customer Specific Marketing, and Loyalty Marketing: The Second Act. He devotes his time to helping retailers develop, critique and strengthen their loyalty programs.
The techniques and metrics Brian Woolf has developed have become guiding principles for those operating some of the world's most successful programs. He is the President of the Retail Strategy Center, and has consulted, and spoken at conferences, in the US, Europe, Japan, and Australasia.
Prior to his total commitment to loyalty marketing, his corporate roles included Deputy Managing Director of Progressive Enterprises, a major New Zealand retailer; and Chief Financial Officer of Food Lion, a leading US food retailer. He has an M.Com. (Economics) from the University of Auckland, New Zealand, and an MBA from the Harvard Business School.
To buy this book from Amazon.com, go to:
https://www.amazon.com/Customer-Specific-Marketing-Brian-Woolf/dp/1888051027