Competitive Customer Relationship Management: Acquisition versus Retention

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Competitive Customer Relationship Management
Acquisition versus Retention

• Niladri B. Syam
• Assistant Professor of Marketing
• James D. Hess
• C.T. Bauer Professor of Marketing Science

Under review for publication in American Economic
Review
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Churn, Churn, Churn The Byrds with Music by
Pete SeegerTo every customer (churn, churn,
churn)There is a season (churn, churn,
churn)And a time for every purchase, in our
theory.A time to acquire, a time to retain,A
time to segment, a time to reap,A time to
prospect, a time to relate,A time to compete, I
swear its not too late. To every customer
(churn, churn, churn)There is a season (churn,
churn, churn)And a time for every purchase, in
our theory.
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Extant literature on CRM

• A very rich conceptual and empirical literature
  on Customer Relationship Management including
  Morgan and Hunt (1994) Reinartz and Kumar (2000
  and 2003) Verhoef (2003) Sharp and Sharp (1997)
  etc.
• A very large body of trade press articles mainly
  operational/tactical
• Rick Staelins 2005 overview paper in JM A
  Customer Relationship Management Roadmap What is
  Known, Potential Pitfalls, and Where to Go said
• We find it surprising that the CRM literature
  and the articles in this special section are
  largely silent on the issue of competitive
  reaction.

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What is CRM?
Some prospects have larger potential lifetime
sales than other prospects. For those better
prospects the firm does special things to
transform them into long-lived customers (that
is, build a relationship). Customers often have
other suppliers to which they could turn.
Element 1 Heterogeneity Element 2 Multiperiod
buying Element 3 Differential treatment Element
4 Addressability Element 5 Churn
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What is CRM?
Some prospects have larger potential lifetime
sales than other prospects. For those better
prospects the firm does special things to
transform them into long-lived customers (that
is, build a relationship). Customers often have
other suppliers to which they could turn.
Element 1 Heterogeneity Element 2 Multiperiod
buying Element 3 Differential treatment Element
4 Addressability Element 5 Churn
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What is CRM?
Some prospects have larger potential lifetime
sales than other prospects. For those better
prospects the firm does special things to
transform them into long-lived customers (that
is, build a relationship). Customers often have
other suppliers to which they could turn.
Element 1 Heterogeneity Element 2 Multiperiod
buying Element 3 Differential treatment Element
4 Addressability Element 5 Churn
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What is CRM?
Some prospects have larger potential lifetime
sales than other prospects. For those better
prospects the firm does special things to
transform them into long-lived customers (that
is, build a relationship). Customers often have
other suppliers to which they could turn.
Element 1 Heterogeneity Element 2 Multiperiod
buying Element 3 Differential treatment Element
4 Addressability Element 5 Churn
8
What is CRM?
Some prospects have larger potential lifetime
sales than other prospects. For those better
prospects the firm does special things to
transform them into long-lived customers (that
is, build a relationship). Customers often have
other suppliers to which they could turn.
Element 1 Heterogeneity Element 2 Multiperiod
buying Element 3 Differential treatment Element
4 Addressability Element 5 Churn
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What is CRM?
Some prospects have larger potential lifetime
sales than other prospects. For those better
prospects the firm does special things to
transform them into long-lived customers (that
is, build a relationship). Customers often have
other suppliers to which they could turn.
Element 1 Heterogeneity Element 2 Multiperiod
buying Element 3 Differential treatment Element
4 Addressability Element 5 Churn
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One other element

• How many customers to have in the club and how to
  reward them is distinct from the decision of when
  to reward them.
• Despite a firms best efforts, some consumers
  will still churn in the future and makes the
  timing of rewards another important strategic
  decision.

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Research question 1

• The motivation If special services are to be
  provided, should it be now or in the future?
• The effect With early provision you can attract
  more customers (Acquisition), with later
  provision you are better able to keep them
  (Retention). Trade press is ambiguous.
• Alternate viewpoint Up-front investments create
  customer assets. Promises of future investments
  create customer liabilities (Shugan, 2005).
• The Question Does a firms choice of acquisition
  or retention depend on its rivals choice? What
  is equilibrium outcome?

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Research question 2

• The motivation Consumers are fickle
• The effect Customer churn can affect
  profitability of CRM (A McKinsey study finds 32
  churn in wireless mkt in 2000)
• Alternate viewpoint Low intrinsic
  retainability of customers makes retention
  strategies ineffective (Blattberg and Deighton
  1996)
• The Question How does churn affect equilibrium
  strategies? Are the effects on retention and
  acquisition different?

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Research question 3

• The motivation Whats in it for the consumers?
• The effect Viability of relationship marketing
  is questionable since it may not be in consumers
  interest to form exclusive relationships with
  firms (Day 2000 Fournier, Dobscha, and Mick
  1998)
• Alternate viewpoint When firms create customer
  liabilities (retention), rather than showing
  trust in customers, the firm asks customers to
  trust it. (Shugan 2005)
• The Question If a firm adopts retention, are its
  interests misaligned with those of its customers?
  

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Now for our choices on

• Element 1 Heterogeneity
• Element 2 Multiperiod buying
• Element 3 Differential treatment
• Element 4 Addressability
• Element 5 Churn

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Picture of CRM competition

• .

Now
Future


Basic customers abandon the category
Club C
Club D
Customer Churn
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Model of CRM competition The basic product

• Firms C and D psychologically locate at either
  end of a unit interval of attributes
• Customers are heterogeneous in affiliation to the
  firms and are uniformly distributed on the unit
  interval.
• The consumers surplus from Cs and Ds basic
  product is U-x-PCb, and U-(1-x)-PDb

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The augmented product determines the Buyer Club

• When a firm implements CRM, it augments its basic
  product by service S
• A consumers valuation of the service depends on
  their affinity to the firm for C it is S(1-x).
• A consumer that gets augmented product from C has
  surplus U-xS(1-x)-PCa.
• Now and future are captured by having two
  time periods t1, 2

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Rewarding Buyer Club members

• When to reward this determines Acquisition or
  Retention strategy
• How to reward? Options include
• 1. Personalizing the product (our choice)
• 2. Add to utility E
• 3. E valued according to location E(1-x)

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Acquisition strategy

• Personalization for club members occurs in the
  first period.
• If firm C adopts acquisition, the first and
  second period surpluses are
• US-PC1, and U-xS(1-x)-PC2

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Retention strategy

• Personalization for club members occurs in the
  second period.
• If firm C adopts retention the first and second
  period surpluses are
• U-xS(1-x)-PC1 and US-PC2

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Analysis of competition

• Firms C and D can each pursue acquisition or
  retention
• This creates four distinct subgames ltr, rgt,
• lta, agt, lta, rgt, and ltr, agt.
• Game structure
• Stage 1 Firms simultaneously choose CRM
  strategies
• Stage 2 All six prices are chosen
  conditional on first stage choice

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The ltr, rgt subgame

• Consumer surplus for two-period club membership
  CSC12U-xS(1-x) PC1US-PC2
• Consumer surplus for basic product CSCbU-xPCb
• Join club rather than buy basic product if
• CSC12gt CSCb ? xlt XC12 .

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The ltr, rgt subgame

• The market segmentation

CSD12
XD12
Buy Basic
Join Club
D
D
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The lta, agt subgame

• Acquisition-oriented firm is vulnerable to
  opportunism
• People will sign up for club if CSC12gt CSCb .
  This gives XC12 as in retention case.
• Second-period marginal consumer, CS2U-xS(1-x)
  PC20, is at
• XC2
• Firm will set prices to eliminate opportunism

C
XC12
XC2
Opportunistic customers
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How to deal with opportunism?

• Firm C should increase PC1 till XC12 equals XC2
• Note that increasing PC1 has no effect on XC2
• Is this optimal for firm C?
• -Yes
• Can this constitute a Nash Equilibrium in prices?
• -Yes

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How does churn rate enter?

• Churn only occurs in the second period
• Consumers leave a firms club to join the rivals
  club
• Cs profit function with churn rate c is

Out Churn
In Churn
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Nash Equilibrium Prices

• Prices in ltr, rgt subgame
• Prices in lta, agt subgame

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A comparison of churn volume

• PROPOSITION 1
• In equilibrium, a firm will have a smaller club
  size with a retention strategy than with an
  acquisition strategy, regardless of the strategy
  adopted by its rival.
• In equilibrium, a firm will have fewer churning
  customers with a retention strategy than with an
  acquisition strategy, regardless of the strategy
  adopted by its rival.

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A comparison of prices

• PROPOSITION 2
• A firms first-period price is higher with
  acquisition than with retention, and its
  second-period price is higher with retention than
  with acquisition, regardless of its rivals
  strategy.
• A firms club price for the augmented products
  over two periods is higher with a retention
  strategy than with an acquisition strategy,
  regardless of its rivals strategy.

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Acquisition-Retention Profits as a Function of
Churn Rate
Figure 3
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The Nash equilibrium

• Theorem 1 The Nash equilibria of CRM competition
  with customer churn are asymmetric ?r, a? or ?a,
  r?.

Retention Acquisition
Retention 100, 100 105, 101
Acquisition 101, 105 103, 103
D
C
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Intuition for result

• The basic drivers for the asymmetric equilibrium
  are
• 1. Churn
• 2. Different strategic effects of
  acquisition and retention
• Recall In equilibrium we find that
• Club size of acquisition firm gt Club size of
  retention firm

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Intuition (contd.)

• The retention strategy gains more customers than
  it loses due to churn
• This windfall implies that the best response to
  acquisition is retention
• This benefit is enormous enough that.

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Some interesting profit comparisons

• Proposition 3 In equilibrium, the retention
  strategy is more profitable than the acquisition
  strategy.
• However
• Proposition 4 Off-equilibrium

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Consider a monopoly benchmark

• Theorem 2 In the presence of churn, the optimal
  strategy for a monopolist is acquisition.

Rationale Since retention strategy has higher
second period price, churn hurts it more
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Two take-aways

• 1. A monopolist should pursue an acquisition
  strategy, but when faced with competition it
  should switch to a retention strategy.
• 2. Competition is the causal link to a retention
  strategy.

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A consumer surplus result

• Proposition 6 Suppose a firm adopts CRM with a
  retention strategy. The customers surpluses are
  higher when churn rate is lower. That is, it pays
  to be loyal.

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Standardized Rewards

• THEOREM 3 There exists a critical churn rate
  threshold such that
• If churn rate is low, one firm adopts retention
  CRM and the other adopts acquisition CRM.
• If churn rate is high, both firms adopt retention
  CRM.

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Variations on the theme

• What if consumers are myopic?
• What if churn is not exogenous?
• Personalized pricing?

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Summary

• Regardless of costs, retention is the best
  loyalty program strategy when there are rival CRM
  firms. Its the competition, stupid. Make them
  focus on acquisition!
• It is in the self-interest of the customer
  population to reduce churn rate.