Let me make you an offer you can refuse: does loyalty work?

Indeed, so entrenched is the idea of incentivisation and rewards for behaviour that it has become a very established part of consumer expectations as to how business will be done in many markets. A huge amount of survey data exists showing that consumers around the world now expect to see this as part of their transactions with the business world, and claim it to be a big influence on their decision-making behaviour.

Of course, in the real world of marketing, we are entering into these programmes with far loftier goals than simply ‘buying’ customer loyalty in the mode of Don Corleone.

The underlying rationale has always been founded on the principles of relationship marketing; the idea that developing strong bonds with the best customers leads to far greater long-term success and profitability. Loyalty programmes have, at best, always been intended as a facilitator of this, seeking to provide a platform from which the right behaviours can be recognised and more powerful emotional connections can be forged.

All promise, no delivery?

While loyalty programmes might intuitively feel like a good idea, and while the US alone might invest more than the GDP of half the world’s countries in utilising them, the fascinating truth is that there is very little evidence at all to suggest they actually work in practice.

Indeed, in the vast majority of cases, the real world evidence suggests that companies that focus heavily on developing loyalty programmes end up worse off.

A 2013 McKinsey study of 55 publicly traded companies across North America and Europe showed that those with more prominent loyalty programmes grew at the same rate, or slightly slower, over the past ten years than those with no or low investment in loyalty programmes. And far more significantly, those with prominent loyalty programmes had earnings margins that were around ten percent lower than comparable companies within their sectors with less significant programmes. 

Put simply, the evidence suggests that loyalty programmes are, for most businesses, simply adding costs with little tangible long-term benefit. 

Similar results are seen when the lens is flipped from business performance to look at how consumer behaviour is actually impacted over time by loyalty programmes. A Deloitte review of the hotel market concluded that at best the loyalty programmes in place had little or no impact on purchase decisions, and at worst were actually driving undesirable switching behaviours. A review of the Fly Buys programme in Australia by marketing academic Byron Sharp, author of How Brands Grow, showed a similar lack of benefit for member companies, failing to identify any across-the-board advantages for them in terms of repeat loyalty behaviours beyond the “disappointingly small”.     

But perhaps most compelling in this space is a 20-year longitudinal study of consumer purchasing behaviour, conducted by marketing and communication guru Andrew Ehrenberg. The study, which covered a huge range of FMCG and services categories in Europe, Japan and the US, showed that the truly ‘loyal’ behaviour (i.e. buying only one brand) that programmes desire from us simply didn’t exist in any category beyond a small niche of light buyers, typically less than ten percent of customers. In all categories, people tended to display a polygamous loyalty to two or three brands, and that the chance of using these brands was more or less directly correlated to their market share. And over this 20-year period, there exists no evidence that loyalty programmes had any long-term impact on the share of purchasing a brand achieved. The only way brands in the study achieved a greater share of loyal buyers was by improving their marketing mix and growing. 

Put simply, the study suggests that incentives alone are not enough to change behaviour. To get loyalty improvements, you had to get better at what you offered the market and grow.

These insights into actual behaviour are startling not only because they question the efficacy of what is a very established marketing practice, but also because they run contrary to what consumers themselves are telling us about how they make decisions. People claim these programmes to be important to their decision-making, but the truth is they really don’t seem to actually impact their behaviour over the long run. Part of this can probably be attributed to the ubiquity of loyalty offers and the idea that you can shop at any grocery store, petrol station, coffee shop, airline or bank and still take advantage of a loyalty offer. But part of this also needs to be attributed to the simple fact that we don’t know our own behaviour as well as we think we do, that a huge amount of our decision-making happens subconsciously according to a set of arbitrary rules we may not completely understand. Our conscious brain can look to rationalise these behaviours, but we should be wary of taking what people say about what they want at face value.

And let’s face it, if you ask someone if they would like the company they buy from to give them a reward, be it a discount or points towards a gift, who wouldn’t say yes? Qualitative work in New Zealand has shown us that when offered the opportunity to join a scheme people say yes, but afterwards consign the card to the deep recesses of their wallet or even that handy-for-shopping place, ‘the shelf in the kitchen’, and never give it another thought. 

“They always ask you when you pay if you’ve got a card and half the time I don’t know if I have but you look an idiot if you don’t look for it,” observed one shopper.

When the evidence on performance is taken together, it’s hard to get excited about the efficacy of these programmes. But we do. Indeed, one imagines there are a huge amount of readers right now thinking something like, “yeah, but what about Tesco or Starbucks? What about Air New Zealand? What about Countdown [see interview with Bridget Lamont]?” And you’d be right. There are examples where loyalty programmes have helped fuel significant success for their brands. From 1991 to 2010, Tesco achieved a 675 percent growth in its bottom line, as it aggressively pursued one of the world’s best examples of a loyalty programme. 

But, it is important to see these examples as outliers in the marketing world. Most of the $50bn plus being spent in the loyalty category is achieving little, and inherent in this fact must be the acknowledgement that we are typically getting things wrong in this space. So why is that? Where are marketers going astray, and what can the truly great programmes tell us about how we can more effectively spend our marketing budgets to achieve loyalty gains?

Looking back

The first modern large-scale consumer loyalty programme arrived in May 1981, with the launch of the American Airlines AAdvantage Frequent Flyer programme, which gave special fares to frequent customers. This was followed almost immediately with programmes from Delta and United. Indeed, so quick was the competitive response that United launched its own programme only a week later.

Much as wars drive advancement in technology, these first airline-based loyalty programmes actually came to be largely a response to increasing competitive pressures that were thrown on the industry via deregulation in 1978. Desperate to woo and retain high-value customers in a suddenly white-hot competitive sector, marketers began experimenting with new ways of incentivising positive behaviour change beyond price discounts and short-run promotional activity. As part of this innovation-out-of-necessity, AA’s most frequently flying 130,000 customers were discovered and pre-enrolled in a programme designed to reward repeat purchase behaviour, via upgrades and discounts on fares. The airline felt that by recognising and rewarding the best customers, brand loyalty could be created and long-term bonds forged. 

In a move that would anticipate a lot of thinking that was to follow in the consumer marketing world, the marketing emphasis was switched from simply winning a customer once in a transaction, to considering the value of a retained and improved relationship over the longer run. 

This idea of the value of the retained and nurtured customer is important to stop and consider, because it represents not only the keystone concept for the first loyalty programme, but every other that follows. Indeed, it forms the basis for the whole idea of relationship marketing and dominates the discourse for the data-driven marketing movement. The accepted wisdom here, as outlined in a wide-ranging review of the space conducted by the Sloane business school at MIT, is that a loyal customer is more profitable to a firm. They cost less to service, they are less price sensitive, spend more and provide positive word of mouth to the market. Further, there is an assumption that there are customers who want an involved relationship with the brands they buy; they seek to establish loyal behaviours and can be encouraged up a ‘loyalty ladder’ to exclusive usage.  

Assumptions, assumptions

All of this looks pretty sensible on the surface. The trouble is, however, that many of these assumptions about the value of loyalty and how it can be obtained don’t bear out when we look at how people actually behave. And this is where things start to go wrong for a lot of loyalty programmes.

First let’s revisit the Ehrenberg study of buyer behaviour. What this establishes from the outset is that there is no ‘hard core’ of truly 100 percent loyal customers in most categories, beyond a small group of very light users. And inherent in this is a challenge to the idea that customers want to be loyal to a single brand, or even that this behaviour can be incentivised. And there are very good reasons for this. We don’t want to only eat McDonald’s when we need fast food, Speight’s is better suited for the rugby you’re about to watch than the Monteith’s you usually quaff in bars and Air New Zealand isn’t flying to Melbourne at the best time for you on this occasion. Something we see in our own work with clients time and time again is that people like to operate small repertoires of acceptable brands in pretty much all categories, because this makes decision-making easy. If a situation arises calling for a purchase, one from the repertoire will fit and you don’t have to apply a lot of effort. Single brand repertoires are simply not desirable in most instances, because they make our lives harder. And no amount of incentivisation is likely to overcome this.

What the study also establishes, and something that is reinforced in Byron Sharp’s Fly Buys study, is that even increasing frequency of purchase through incentivisation is a fraught assumption. Over the 20-year period of the study there was no real evidence that loyalty programmes changed a firm’s share of repeat purchase beyond what could be expected for their market size. What this again suggests is that changing behaviour using rewards and incentives is difficult. And again, there are some very good reasons for this. We establish our usage of brands in categories based on our belief in their ability to meet our specific needs. 

A customer’s relative use of Air New Zealand vs. Jetstar is all about their perceptions of the experience that will be delivered, the cost, the timetable, destinations, etc. In essence, the brand’s marketing mix formulation. What follows, therefore, is that it will always be difficult for rewards alone to disrupt this pattern, because they are asking us to put aside our beliefs around brand suitability for the purchase occasion in favour of an incentive. For that value equation to work, the incentive will likely need to be far more significant than what can be manufactured by most loyalty schemes, especially over a longer term. 

So, the big conclusion we can draw at this point, is that most loyalty programmes fail to achieve results for business because they are based on flawed principles regarding how customers want to act. They are, by and large, trying to incentivise changes that people don’t want to make. And as such, any loyalty programme that is based solely on providing rewards to change behaviour will fail. 

It’s probably also worth pointing out that some of the assumptions around the value of loyal customers are also based on very little sound fact. There is no real evidence that very loyal customers pass on any better feedback to the market than ‘normal’ happy-but-promiscuous customers; there is little evidence that highly loyal customers are any less expensive to service than normal long-term repeat-but-promiscuous customers; and no clear research to prove they will be less price sensitive either. Significant reviews of the space conducted by leading academics and management consultancies find consistency in these assumptions, but find little to actually support these ideas.

However, while there are strong clues to why loyalty programmes fail in the core assumptions that underpin the movement, there are also principles that do hold true in this space, and which point us towards why some programmes prosper. 

And that’s the idea of customers wanting a relationship with brands and the value of emotional connection.

Success is scarce

What is evident when successful loyalty programmes are examined against those that fail to create change is that they create stronger emotional bonds between the customer and the brand. Their transaction with the customer is not merely a reward for a behaviour, but also recognition for behaviour. The earlier mentioned McKinsey analysis of loyalty programmes, when focused in on those examples that actually drove revenue growth for businesses, showed they all shared an approach, which looked to deepen the emotional connection present with customers. They typically used customer data collected from the programme very effectively to improve understanding of the individual customer’s needs and preferences. They use this information to sharpen not only the individual incentives that were offered, but also how the whole product or service offer was shaped for that customer.  

Tesco does this customisation extremely well with its programme, and this is a big part of what has driven its success. Each month they mail out over ten million different versions of its coupon mailers to households in the UK, each featuring a tailored set of offers based on the things individual customers buy. It emails customers directly to inform them when favoured products are going on promotion. And it uses customer data in aggregate to improve its range in particular store locations and what they look to put on promotion at different times. The result is that it feels like Tesco knows you. And when we look at the level of emotional connection that it receives relative to competitor Sainsbury’s in a WPP-run global brand study, it is more than double at the very highest levels of connection. 

Another successful player in the loyalty game, Starbucks, goes even further with its programme, using it as a way of transforming the whole service experience for the better. Its programme utilises mobile payments technology to allow members to order and pay for their coffee via a special phone app to create a more seamless store experience. It doesn’t just reward the customer for loyalty; it creates loyalty by improving the core offer.  

Successful loyalty programmes go a lot further than just trying to buy a behaviour change. They create reasons for customers to re-evaluate their relationship with the brand by improving the experience of using them. In essence, what they are actually doing is reshaping how customers experience the product or service for the better. And what we know from all of the longitudinal behavioural work conducted by Ehrenberg is that when these sort of fundamental improvements to the brand occur, that is when we see growth. And in the words of John Sculley: “As a brand marketer, I’m a big believer in ‘branding the customer experience,’ not just selling the service.”

There is also a much more primal way that loyalty programmes achieve success via emotional connection that is clear across all the empirical results available on the category. And that is by providing customers with status. Something that the travel industry and casinos have known for some time is that identifying key customers and conferring on them a labelled status that is only available for a privileged few drives massive improvements in loyalty and retention. This is where programmes like Air New Zealand’s Airpoints scheme are so successful. 

And while part of the value of status is about the rewards you receive, the idea of being singled out as important, without any real benefits, should not be undervalued. A great example of this comes from Shell in Europe, which established its Vpower Club for the highest spending fuel card customers.

Essentially, all that this involved was giving these customers a special coloured card, a free magazine and telling them that they were elite customers. That’s it. By holding back introduction of the scheme from some eligible customers, they were able to test the impact of the programme with a control group, and amazingly spend shot up significantly with those who were given status.

It shouldn’t come as a surprise that we like to be recognised and neuroscience ably demonstrates how our brains light up when we receive recognition and our status is acknowledged. It creates a sense of belonging that appeals to both men and women. 

It’s like when you go to a restaurant you haven’t been to for a while and they say ‘Hi, good to see you again’, it makes you feel good to know they noticed and remember you.

So where does all this information leave us? First we should acknowledge that most loyalty schemes operating right now don’t work to provide any real gains for their businesses. The reason for this is that they are simply trying to buy a behaviour change that customers don’t desire to make. If we want to improve customer loyalty, we have to focus on creating a stronger emotional relationship by demonstrating that we know and value our customers. What that means for most businesses already operating in this space is using the data we are collecting on customers to improve the value inherent in the product or experience we provide, whether by customising communication and offers, streamlining experiences and conferring status on those who deserve it.

In many ways the lexicon itself is a clear indicator of where we are going wrong in the loyalty space. Often we see these as ‘rewards programmes’, but at best they’re really CRM programmes. Ultimately it’s love, not money, that buys loyalty.

• This feature originally appeared in the July/August edition of NZ Marketing.