Why loyalty programs work and create bilateral value

They say luring in a customer is five times more expensive than paying to retain already existing ones. Learn why loyalty programs have become a pivotal aspect of how retail companies slow down the revolving door.

Key takeaways:

  • Loyalty programs seek to add value beyond the product via an emotional connection, a sense of exclusivity, and voluntarily binding;
  • Marketing is about values, which is why Nike runs ads that are always about the athlete, not the product;
  • 84% of consumers say they are more likely to stick with a brand that offers a loyalty program;
  • Starbucks sees 40% of orders done via its application, and it has more than 16 million active members.
  • Loyal retained customers are the most profitable customers.


What is a loyalty program?

According to research conducted at the University of St. Gallen, there are 55 unique business model components which firms can mix to build a business model and monetize their product. Famous examples include ‘’white-labels’’, ‘freemium’’ and ‘’fixed rate memberships’’ like Amazon Prime. All of these are in some sense an interpretation of game theory and industrial organization models in economics, models that seek to shape how the consumer surplus of the demand curve may yield more revenue under different assumptions, or prices.

One such model is the ‘’loyalty customer’’ model which the paper describes as, ‘‘Customers are retained, and loyalty assured by providing value beyond the actual product or service itself, i.e., through incentive-based programs. The goal is to increase loyalty by creating an emotional connection or simply rewarding it with [exclusive] offers. Customers are voluntarily bound to the company, which protects future revenue.’’.

The key drivers behind loyalty programs revolve around the company’s added value beyond what they sell which is achieved via an emotional connection, a sense of exclusivity, and voluntarily binding.

Loyalty matters to firms who seek to minimize customer retention costs, and maximize customer wallet spend, which are both hard to do. Loyalty strategies have become attractive to companies because e-commerce has both invited in more rent seeking behavior from middlemen, and at the same time, it has enabled firms to control their supply chains. So do loyalty programs work?


Do loyalty programs work?

More than you can imagine.

84% of consumers say they are more likely to stick with a brand that offers a loyalty program, and 66% of them say the ability to earn rewards increases their spending behavior. Because of unit economics, the most loyal customers are usually the most profitable ones as they spend more and cost less to onboard. Those customers in part explain why companies like Playtika, Bumble and Airlines see most of their revenues come from a smaller cohort of customers. This is a problem for airlines because 75% of their revenues come from 20% of their business customers (those ‘’loyal’’ customers).

How well a program works largely depends on the business’s market position, and how competitive it is to sell a given product. The more competition there is in a market, the more price is subject to being undercut by rivals, hence granting more options to customers.

This reality is why Apple and Amazon have less use for loyalty programs as opposed to Starbucks, airlines, banks, and any clothing company out there. Apple and Amazon provide a unique product that supersedes the need for added convincing, and furthermore, their brands are highly differentiated from competition which protects them from rival price attacks.

Smartphones have fundamentally contributed to loyalty programs taking off. Applications at Target and Starbucks have been developed to tap into customers’ wallet with Target going as far as store tracking to help customers pick out offers in the aisles.

The Starbucks Reward Loyalty Program has been an incredibly innovative way by which to increase company revenue. In fact, 40% of orders are now done via the application and more than 16 million members are active and recurring daily. Their application comes with many perks: online orders (skip the line on Monday mornings), free drinks on your birthday, member events, the ability to send friends gifts, and in app integration with Spotify.


It is good for the customer, and it gives Starbucks a ton of data to use.


Starbucks is accompanying the customer every step of the way and adding value to the experience by building a relationship with their customers. As Starbucks continues giving out stars (rewards) on their app, its CEO said that those specific customers have tended to spend even more money than non-reward program members. The more you give the more you get.

Clearly, this symbiosis between brand and customer experience is invaluable and could put a wedge between those who implement good programs and those who don’t. By good, we refer to the hand holding, stimulating, exclusive ends a program can offer ‘’members’’.


Conclusions on loyalty programs

There is an intricate dance between seamless benefits, and customer interaction. A business must balance the ease with which customers receive free items, and the stimulation they get in the process of attaining free things—you've got to keep them incentivized. This is why many companies send out reminder emails to groom and foster the three values mentioned above: emotion, exclusivity, and binding.

But loyalty is a two-way street and while customers bind themselves to your recurring revenue stream via a sort of pledge, the pledge implies a reward and a sense of uniqueness in return, which a business must tend to. It is all about the feeling! How many times have you gone back to a shop just because that employee was pleasant, or the feel of the place was comforting? You didn’t even need that drink, nor that poster you just bought!


Do you still think marketing is about the product?


Bottom line is simple. A good loyalty program is about a mutually beneficial relationship between a business and a customer. In fact, forget the word customer, and think partner, husband, member, or teammate. Like Steve Jobs said, ‘’marketing is about values, which is why Nike runs ads that are always about the athlete, or the athlete’s success’’. The objective behind a loyalty program should be to develop a system through which customers are continually educated about the rewards of loyalty and motivated to earn them. This is not a quick flirt, it’s a long marriage.

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