Getting the Most Out of All Your Customers - A Customer Behaviour Model with Long-term Profitability in Mind

Many companies are focussing on the wrong types of customers in their direct marketing activities. Too often, they tend to pursue whichever customers they think are the cheapest to gain and to keep. The Allocating Resources for Profits (ARPRO) model was designed to help direct marketers avoid the types of selection biases commonly found in similar models, showing a far truer relationship between customer behaviour and long-term profits.

by Werner Reinartz, Jacquelyn Thomas,V. Kumar
Last Updated: 23 Jul 2013

Too many marketers are overly focused on short-term costs over long-term gain when it comes to direct marketing investment decisions. They tend to pursue whichever customers seem to be the cheapest both to gain and to retain. Unfortunately, such clients are not always the most profitable.

INSEAD Associate Professor of Marketing Werner Reinartz, Prof. Jacquelyn Thomas of Northwestern University and Prof. V. Kumar of the University of Connecticut have devised an actionable quantitative model to help direct marketers. The Allocating Resources for Profits (ARPRO) model avoids the types of selection biases commonly found in similar models, and shows a far truer relationship between customer behaviour and long-term profits.

The ARPRO model incorporates profitability into marketing-mix decisions to reveal how much companies should spend on direct marketing. This can help firms establish how to maximise profitability, and how best to allocate funds for direct marketing as part of their overall budgets. The authors offer a very thorough explanation as to why their data so clearly shows that many companies are still getting poor returns from their direct-marketing investments, despite there now being so many sophisticated analytical tools helping firms to identify and manage customers response to various types of direct marketing.

They discovered that:

· The data many companies rely on are based far too heavily on existing, rather than potential customers.

· Most companies still wrongly use customer acquisition rates and retention rates as their principal metrics to evaluate market performance. The authors explain why this can be highly problematic for many reasons.

· Many marketers either explicitly or implicitly group their customers into four segments, based entirely on the difficulty and costs associated with attracting and retaining them.

· Even companies avoiding the above pitfalls can often treat acquisition and retention as independent activities, and over-invest when trying to maximise both rates.

A demonstration of the ARPRO model is offered, using a highly simplified hypothetical case. In addition, actual results are presented involving three companies in very different sectors: a catalogue retailer, a business-to-business service provider, and a pharmaceutical company. The results should make for very interesting reading for anyone interested in optimising their direct-marketing budgets.

Their findings determine that:

· Maximising the likelihood of acquiring or retaining any given customer is not the same as maximising overall customer profitability.

· Spending too much on marketing may be harmful, but spending too little can be even worse - particularly when it comes to customer retention.

· Finding the optimal balance between investments in acquisition and retention can be more important than finding the optimum overall amount to invest.

The authors conclude their analysis by examining the impact of the communications channels chosen by each firm, and how these impacted on investment effectiveness. Finally, they offer precise recommendations for optimal communications strategies for each of the companies studied.

Harvard Business Review, November 2004

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