Not all Kings are equal – An intro to customer lifetime profitability


The myth

All of us are familiar with the mantra “Customer is the King”, which conveys that we satisfy the needs of all our customers. At first glance, this concept makes sense. After all, more the happy customers, more the profit, right? But is it possible to make all our customers happy? Or is it even necessary? It is a utopian thought with no resource constraints and shareholders to answer to.

Where most banks go wrong is in assuming that they can/should treat each customer like a King. Even in the courts of Emperors, all kings had a clear hierarchy of privileges and seating around the throne. With millions of customers to serve, each one though a king deserves differentiated levels of privileges. This differentiation needs to be done like the Emperors did not only on the king’s current army strength (in our case current relationship value), but also on the kings’ ability to influence other aligned and non-aligned kings (ability of customers to be promoters) and future earning/tax potential of the kings’ lands (future growth potential of customers’ wealth). Banks currently accord privileges to majority of ‘kings’ primarily basis their current relationship value. Banks, who wish to become Emperors, will need to like Emperors calculate the King Relationship Value or the Customer Relationship Value.

 

Measuring CLV

CLV is the net present value of the current and potential profits from the customer. Without a strong theoretical framework, it is difficult to link current revenues and costs to customers, and even more onerous to predict potential revenue and costs. Currently majority of Indian banks primarily use heuristics based current relationship value as an indicator of CLV. These methods are satisfactory in predicting the CLVs of the premium customers, but fall woefully short while predicting for the mid market customers who generally form the bulk of the customer base at most banks.

The CLV theoretical framework has three components of profitability derived from:

  • Current relationship value
  • Potential relationship value based on attitudes/behavior/wealth/income over time
  • In the age of the social media the customer’s influencing ability.

Note that CLV is ideally based on profitability and not revenue and requires the ability to have a single view of the customer across all relationships. CLV basis revenue is lower on maturity.

To build the framework banks first need to understand the costs incurred to service each customer. In my discussions with banks, the absence of a cost capture framework has been observed time and again. Customer costs flow through various departments and cost centers across the bank though have yet to see a Customer cost center, which captures costs incurred on the customer across the bank. Banks could do well to start building a cost framework, as herein lies, huge amounts of cost savings waiting to be released primarily through removal of duplication and process streamlining.

Most banks have done some work on the current revenue framework but still rarely at the customer level. These frameworks are robust for the premium customers and can be extended across segments.  The next milestone will then be in building a framework to capture potential revenues and costs over the lifetime; a lifetime is generally defined as a cycle of seven years. There are various intelligent IT tools, which can be used as a base to customize this framework for each bank.

And the last but not least job will be of building the Influencer profitability model. Identifying and nurturing this segment of customers is something which the banks need to learn from other industries. For eg – Mattel, the toy manufacturer has a list of 400 blogger moms in the US, who the manufacturer actively engages with while designing and promoting their toys. The company has shifted its promotion budgets from giving out free toys in stores to sharing their toys with the blogger moms to get their buy-in. Many banks have customer contact programs where they engage with customers and use their insights in building/improving their products and services. But none of them know the promoter scores of this set of customers and none flag these customers off on their internal systems as an influencer who needs to be accorded special privileges.

CLV in action

With a CLV deployment banks will know the CLV of a customer on the day he is on-boarded. This is possible through the use of tried and tested customer frameworks. Just imagine, if we were to know the profitability of our current and new customers on day one? Customers could then be accorded privileges basis CLV and not just their current relationship value. Banks could define the overall customer CLV segmentation that all departments should aim for, as the ultimate aim would be- meeting CLV potential, driven through cross-sell. The CLV framework when combined with event based marketing (EVM) is a potent tool to increase cross sell revenues.

Most customers have multiple banking relationships but one/two primary bank(s). The secondary banks because of the low relationship value of this same customer do not accord it the privileges that a customer of his stature (CLV) deserves. So this customer, used to higher privileges at his primary bank, is never enticed to make one of his secondary banks as his primary. With older banks saddled with hundreds of thousands of dormant/low value accounts, we will never know how many of those dormant accounts are highly profitable accounts, at their primary banks.

CLV would be used to offer truly differentiated service to customers across products. Imagine a high CLV customer with only a credit card relationship. When this customer goes to the bank to open a vanilla savings account he could be offered free platinum services on his vanilla account for a look-in period of (six) months. He would be referred to other product groups depending on his CLV matrix and if his promoter score is high, the bank would engage with him on a different level. The probability of building a stronger/wider relationship with the bank is evident. The additional cost spent on the customer over and above his current entitlement is an issue, which requires the cost framework to incorporate an apportionment model across various potential verticals. This kind of accounting necessitates banks to view themselves as a single entity rather than as a federation of products, as banks currently do. CLV as a concept therefore needs buy-in and drive right from the C-suite. Businesses can focus more on customers with high CLVs. Customers who increase the overall CLV of the bank rather than just of individual products will be sought. Only with use will CLV models become more robust.

In the developed markets with already high banking product penetrations, banks and insurance firms have deploying CLV. This is to optimize their operations and improve profitability in a scenario where fresh customer additions are low. We in India do not have the same challenge. CLV in India is important as, rather than only acquiring large customer numbers, banks need to focus on juicing the CLV of every customer who the bank comes in contact with. The days of 30% dormant accounts and low products per customer would then be a matter of the past.

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