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.


Idea Markets – The Power in numbers

Dattaram had just taken over as the branch manager of the SME branch of this large PSU bank since the last six months but had spent over 20 years at the bank. One of his biggest challenges was in providing as fast a turnaround on credit proposals as the new age private sector bank next door. He discussed with another SME branch BM in Delhi and designed a new process for credit appraisals which would improve the TAT by 25% for all SME branches across the bank. With a lot of excitement he presented this proposal to his Regional Head, Mr. Prabhu. Mr. Prabhu though had his hands full with the launch of ten new branches in the next quarter and did not wish to be bothered with Dattaram’s new project at that time. He told Datta that they would discuss the project after the branch openings and pushed the project onto the pending list. The branch inauguration next quarter was a grand success. Another ten branches were to be commissioned within the next two quarters, and thus Dattaram’s TAT improvement project went onto the perpetual pending list which most Regional head’s like Prabhu have. Dattaram too got used to operating with the sub-optimal process and life continued at the bank. Dattaram never again bothered to think of a better way to perform his job as getting Prabhu’s mindshare was too daunting. We will never know if Dattaram’s TAT idea was worth pursuing by the bank. We will never know if that change could have increased PAT by those millions by which the bank missed its year-end PAT estimate!

Every organization has its fair share of Dattaram’s and Prabhu’s.  Idea markets is about giving a voice to all the Dattaram’s and making redundant all the Prabhu’s in our system.

The banking industry has one of the most educated and largest employee bases. But the majority of this base is conditioned to think as workers rather than as intrapreneurs (entrepreneurial thinking employees). While comparing banks most ranking methodologies give weightage to the financial parameters but none take into account the size and quality of the workforce. In my mind, quality of workforce being equal, a bank with a hundred thousand strong employee force should have five times the intellectual capital as one with twenty thousand employees and this should give the larger bank intrinsic strength. But this arithmetic does not hold true as organizations have by and large not built systems to harness the true intellectual capabilities of their entire worksforce. I see Idea markets as an interesting concept to right this wrong.

Idea Markets

Idea markets use ‘crowdsourcing’ as its primary building block. Crowdsourcing, at its most basic level, is about collaborative thinking towards a common goal. It is when a business or organization takes a task usually performed by a designated internal team or individual and outsources it to an undefined group of people in the form of an open call. The concept has been present and has been used knowingly or unknowingly since ages. It is based on the belief that a diverse collection of independently-deciding individuals is likely to make decisions and predictions better than experts. Spurred by the benefits offered by web 2.0 technologies and the increasing acceptance of technology as a platform, all industries, including BFSI, are trying to use it to the fullest. Stock markets its functioning is the most common example of crowdsourcing. The premise which forms the basis of Idea markets as an application of crowdsourcing is the fact that stock markets essentially evaluate the stocks of companies based on the “crowd’s” perception on how good a stock is. Applying the same idea within an organization, we have a collaborative innovation platform.

There are many instances of crowdsourcing, which have been deployed:

  • The first prediction markets namely Iowa Electronic Markets (IEM) predictions for presidential elections have been continuously more accurate than exit polls
  • HP’s internal prediction market outperformed HP’s official printer sales forecasts 75% of the time over 3 years. Intel established a prediction market to allocate manufacturing capacity, which yielded a 100% efficiency improvement
  • Walmart, Southwest Airlines, Google and Microsoft have all deployed different forms of Idea markets
  • Closer home Infosys has implemented its own Idea market within the company

How it works?

A perfect crowdsourcing application should have four characteristics that ensure a success story – diversity of opinion about the said idea, independence in formation of thoughts & opinion, decentralization of sources of information, and a platform to quantitatively aggregate the information held by the crowd.

The objective of idea markets is to create a virtual market where all participants can suggest new product ideas and collectively evaluate those ideas through a market mechanism. Idea markets use idea stocks to represent new product ideas, let participants trade the stocks on a virtual market place, and use the resulting stock prices as indicators for the possible success of the different new product ideas.

The Idea markets implementation is a six-step process starting from generation of ideas based on an open-ended or closed ended question by the management team. The questions can be as specific as improvements on a feature of a service, or as open as invitation on ideas on a new product, or product category. Dattaram’s TAT improvement project would have been an idea which he could have listed (without requiring Prabhu’s approval) on the idea market at his bank.

All collected ideas are evaluated by the employees. Employees in the SME department would have been interested to evaluate Dattaram’s idea. The basic principle behind using the market mechanism for idea generation is to exploit the power of markets to efficiently evaluate a large number of stocks, as the market mechanism stands out for its ability to aggregate dispersed opinions. There would be other ideas too which would be traded. At the end of the period the aggregating mechanism of the platform would highlight the idea stocks with the highest market capitalization. Dattaram’s idea would now float up to be noticed by the SME Head who can then start a pilot implementation of the idea. There could be other ideas which may not be as easy to implement and may require further resources in terms of time and money which can be sanctioned by the senior management who play the role of venture capitalists within the bank.

In conjunction to Idea markets, banks would also want to look at Idea management systems which allows them to collect, track, and manage ideas. Selected ideas are taken in for further analysis, implementation and more. It also allows those participating in the project to volunteer to work on particular projects and vote on which ideas should be considered for investment and developed to the proof-of-concept phase. An idea markets implementation along with an idea management system forms the ideal combination for the innovation program in a bank to analyze the potential benefits of all incoming ideas and insights, product management, strategic planning, sales, and processes improvements, and others.

Why Bother?

Enough said, but why should any organization, be it in BFSI or any other industry, bother to setup a collaborative interaction platform within its intranet. Truth being told, there are benefits for both the company and the employees from such a platform

For the organization, constructive employee engagement through a game-like environment for fostering participation, strengthened intrapreneurial culture, a feedback and employee pulse detection channel and identification of opinion makers are some key benefits. However, the key benefit is to be able to ask its employees key questions and solicit ideas and answers from them.

Employees too reap benefits by getting reward and recognition opportunities, and greater job satisfaction through a say in the decision making process of the company. More Dattaram’s will be unearthed and Prabhu’s made redundant.

If Idea markets are deployed well large banks could start enjoying the fruits of owning a large employee base and increase the performance gap with the smaller banks.