It is innovative and the right choice when into today’s fast paced environment companies act data driven. In order to grow steadily, profitably and sustainably it is important to know the Customer Lifetime Value and what budget is available to acquire a new customer. In many cases a company has all the statistics necessary to acquire a new customer but the second the customer is signed up detailed tracking and analysis stops.
According to Econsultancy, 70% of the companies agree that customer retention is cheaper than new customer acquisition . Yet it is amazing with how little effort companies focus on the retention of existing customers and how uncoordinated this process is in most cases.
In this article we will analyze the economics behind new customer acquisition vs. customer retention and why most companies are having trouble with a successful customer retention process.
Companies that fail due to churn – Isn’t churn normal? whats so bad about it?
Why is it even important to retain a customer if my new customer acquisition is working? Overall you should be concerned about customer retention due to two factors:
Cost efficiency and company growth
According to research the acquisition of a new customer is between 3 to 10 times more expensive than to retain an existing customer. This means if your new customer acquisition cost is $ 300 you would only need $ 30 to retain an already existing customer. If for example you have 1.000 customer’s effective customer retention management can bring you saving of $ 270.000.
But do you not need new customers to grow? Of course this is essential but if you do not take care of your existing customers your company growth will stagnate, our second factor. Let us look at some calculations. Company A is growing revenue at 10% per month but loosing 8% of its customer every month (the average churn is at around 6%). Company B is also growing revenue 10% per month but has very little churn of only 3%. Now let us compare where these companies will stand in only 12 months:
The starting MRR (Monthly Run Rate) is the same for both companies. They both have a recurring revenue stream of $ 10,000 per month.
Company A is growing monthly revenue by 10% every month for the next 12 months, but churn is high at 8% per month. After 12 months of operation the company’s MRR will be at $ 11,539 per month. In two years the revenue will be only $ 13,315. A growth of only about 30% in two years.
Company B is growing monthly revenue by 10% every month for the next 12 months too, churn is much lower at 3% per month. After 12 months of operation the company’s MRR will be at $ 21,776 per month. In two years the MRR is at $ 47,418, a growth of around 4 times the starting MRR or 400%.
You can see what a difference only 5% churn make. We are only looking at revenue here and not comparing the profitability of the two companies. Company A will need much more resources than company B in order to survive for the next year which cripple’s profitability and make this company really unhealthy.
How to retain a customer?
So how do you retain as many customers as possible? There are several things you can do in order to retain a customer. First you will need to determine what is right for you and your customers and build your strategy accordingly.
The first and most basic condition is that your product or service is well executed and solves a real problem that people are willing to pay for. This is an assumption that is true for business in itself. You should make sure that this assumption holds true for your business otherwise you will fail.
1. Create a relationship with your customers through retention tools
The best communication with your customers is a personal one. When a company grows this gets harder and harder to do. In the beginning you still know every customer and his or her needs. Later on when a personal communication with every individual customer gets increasingly difficult you can fall back on so called retention tools. Especially if you are a scrappy startup with limited resources, these tools can be easily implemented right from the beginning. They are automated but give the user a reason to talk to you if he wants and you will be able to categorize them into segments that you can approach individually.
Customer.io is segmenting your customers based on their behavior and allows you to send targeted messages to each of the segments you define. This way you can reach customers with messages that the customer really wants instead of driving him away with general messages that feel impersonal and are not of any interest to your customer.
Our solution´s (Netpromotive.com) strongest retention feature is that you have a reason to get into interaction with your contacts on a regular basis. By asking them how they feel about your company you can segment their sentiment and act on individual customer emotions. Some customers love your product, so you should ask them to refer some of their friends. Other customers for example have problems with the onboarding process. With that you can easily help them, show them the value of your product and make them a long-term customer.
2. Use loyalty programs to create a cult like following
Hotel chains like for example Marriot make great use of loyalty programs to make customer come back every time they can. Marriot for instance is pretty generous with giving out free nights for hotel stays, sometimes you need as little as 3 regular stays to spend a night for free in one of their many hotels. This gets customers fired up and makes their loyalty program one of their top revenue drivers. Around 50% of their 2007 revenue of $ 13 billion was contributed to members of the loyalty program and people who joined their program doubled their amount of stays in a Marriot hotel . So by implementing a loyalty program of your own, even on a small scale can drive up the customer retention. Giving out your product for free to loyal customers usually does not involve any big investments and can be a great way to lock in your customers for a long time.
3. Create a network effect and lock customers in for the long-term
This is only possible for certain products but when done correctly can make customers stay forever. We call it the network effect. It is popular with for example phone companies that allow you to call all members of their own network for a much lower rate than other carriers or even for free. This results in two things: First you trying to convince everyone around you to join your carrier and second when everybody has joined to never leave. This tactic only works for certain products where an interaction between your customers is necessary or there is a large community aspect to your product.
What are the economics of customer retention?
Like always it comes down to customer profitability and how to find the right balance between new customer acquisition and customer retention. Measuring, managing, and maximizing customer profitability requires resource allocation decisions that take the costs of marketing, sales and customer interactions into consideration. So how much to spend on customer acquisition and customer retention and how do you allocate those expenditures? What is the right balance of resources that optimizes customer profitability?
Reinartz, Thomas and Kumar (2005) found out that overspending on both segments, acquisition and retention is worse than underspending and a suboptimal allocation of retention investment will have a greater impact than a suboptimal acquisition budget . Like expected the majority of the budget after customer acquisition should be spent on building and maintaining the long-term relationship. The most effective way to do this is interpersonal communication. Personal e-mails should make out 80% of your communication and telephone around 13%. Here our described retention tools like customer.io or NPS feedback platforms can make the difference.
What are your takes on customer retention? What tools do you use and how do you allocate your budgets?
 Werner Reinartz, Jacquelyn S. Thomas, & V. Kumar Balancing Acquisition and Retention Resources to Maximize Customer Profitability, Journal of Marketing Vol. 69 (January 2005), 63–79