1. Fundamentals of Relationship Marketing8 emphasized that a relationship view of marketing implied that maintenance and development were of equal or perhaps even greater importance to the company in the long run than customer acquisition. Due to the fact that customer retention is much more important than attracting new customers, companies pursuing RM principles design strategies to develop close and lifelong relationships with the most beneficial customers. By differentiating between customer types the RM concept further suggests, that not all customers or potential customers should be treated in the same way. RM, in contrast, saw the need to communicate in different ways dependent on customer’s status and value. This view of marketing also implied that suppliers were not alone in creating or benefiting from the value created by the corporation. Rather RM can be seen as an ongoing process of identifying and creating new value with individual consumers and then sharing the value benefits with them over the lifetime of the association (Gordon, 1988). This is due the fact that a higher customer value will raise customer satisfaction; thereby customer loyalty will be instilling, which, in turn, creates higher profit due to increased volume resulting from positive word-of-mouth and repeat purchases. Thus the overall objective of RM is to facilitate and maintain long-term customer relationships, which leads to changed focal points and modifications of the marketing management process. The familiar superior objectives of all strategies are enduring unique relationships with customers, which cannot be imitated by competitors and therefore provide sustainable competitive advantages. Most of the concepts, ideas and developments discussed briefly above are present in the following refined definition which describes the objectives of RM as to identify and establish, maintain and enhance and, when necessary, terminate relationships with customers and other stakeholders, at a profit so that the objectives of all parties involved are met; and this is done by mutual exchange and fulfilment of promises (Grönroos, 1994). The growing interest in RM suggests a shift in the nature of marketplace transactions from discrete to relational exchanges, from exchanges between parties with no past history and future prospects to interactions between parties with a history and plans for upcoming interaction. As Doyle noted, practitioners and marketers often made the mistake of seeing marketing as a functional discipline rather than an integrated business process (Doyle, 1995). In the following chapters and throughout the book relationship management ideas, concepts and perceptions will be explained and we will establish the importance of RM as an integrated management approach. 1.3 Relationship Economics It is almost impossible to discuss RM without discussion the concept of loyalty as it is frequently seen as an expected outcome of RM and the phrase ‘loyalty marketing’ is often used interchangeably with RM (Palmatier et al., 2006). The frequent assumption is that, from whatever sources the loyalty is derived, it translates into an unspecified number of repeat purchases from the same supplier over a specific period. A comprehensive definition of loyalty in this context is: ‘The biased (i.e. non-random) behavioural (i.e. re-visit), expressed over time, by some decision-making Kapitel_1.indd 8 03.08.2010 12:45:30 Uhr 1.3 Relationship Economics 9 unit with respect to one [supplier] out of a set of [suppliers], which is a function of psychological (decision making and evaluative) processes resulting in brand commitment’ (Bloemer and de Ruyter, 1998 cited by Egan, 2008). According to Uncles, the espoused view is that consumers actively seek an involving relationship with their brand (product manufacturer, service supplier, brand owner or retailer), which in turn offers psychological reassurances to the buyer and creates a sense of belonging (Uncles, 1999). The proposed benefit of loyalty schemes, is having this sense of belonging reinforced. The goal of such programs is to establish a higher level of customer retention in profitable segments by providing increased satisfaction and value to customers. Although RM and loyalty marketing have several common components (e.g. the use of information technology, customer knowledge and direct customer communications), it is questionable whether the connection is any deeper (Hart et al., 1999). Loyalty programs suggest that this view of relationship formation is more similar to a stimulus-response function than anything resembling a relationship. Rarely are loyalty schemes more than a sophisticated sales promotions where the loyalty is to the program and not the brand. Consequently, loyalty schemes play a part in relationship maintenance but cannot be taken as proxy for the RM viewpoint (Pressey and Mathews, 1998). One axiom of traditional marketing is the belief that self-interest and free competition are the key drivers of value creation. That axiom is challenged by relationship marketers who suggest that is mutual cooperation that delivers this value (Shet and Parvatiyar, 1995). However, the illusion that RM is unconcerned about profitability because of its above mentioned cooperative tenor is false. A paramount objective behind companies adopting an integrative relational strategy must, at least ultimately, be sustainable profitability. Even though in a relational exchange the focus is more concerned with the longer-term economic benefits profits remain important to all parties (Morgan, 2000). Conventionally, the focus of traditional marketing has been on creating new customers. This rather ‘offensive marketing strategy’ included, in addition to acquiring completely new customers, attempting to attract dissatisfied customers away from competitors, particularly in periods of fierce competition (Storbacka et al., 1994). Although the acquisition of customers is important, it is only an intermediate step in the process of value creation. The first line of defence is its existing consumers (Kotler, 1992). Therefore, RM emphasizes the proposition that, in addition to ‘offensive strategies’, companies need ‘defensive strategies’ as well which reduce customer fluctuation (Sorbacka et al., 1994). The logic behind this integrated approach can be illustrated using the metaphor of the leaky bucket (Figure 1.1). This stresses the importance of keeping customers while recognizing that acquiring customers is, of course, the basis for having any customers to keep. In order to succeed, an enterprise must both have a constant flow of new customers and prevent consumer exit. To achieve sustainable profitability both strategies of acquisition and retention must be pursued in the framework of an integrative management process. Customer acquisition• : Any decrease in the overall number of customers has profitability implications. As mentioned earlier, companies in the past concentrated on the consumer acquisition process. However, against the background of forecasted low or even negative population growth in many mature markets, intensified competitive pressures and macro-economic crises customer acquisition in relative terms will become more difficult. Kapitel_1.indd 9 03.08.2010 12:45:30 Uhr 1. Fundamentals of Relationship Marketing10 Customer retention• : Although RM requires a dual focus on both acquisition and retention strategies, it is the latter that is often given paramount prominence. In fact, it has become one of the underpinning convictions that RM fuels retention marketing first and acquisition marketing second. This view is generally supported by academics, many of whom further promote the concept by suggesting that customer acquisition is between five and ten times more expensive than customer retention (Gummesson, 1999). Although this widely accepted marketing maxim is a simplification, it has become widely accepted by an increasing number of enterprises that it is instrumental to keep existing customers satisfied rather than devote high levels of marketing effort to new customer acquisition (Barnes, 1994). To further strengthen this bias that the principal focus should be on retention, it is proposed that the longevity of relationships also provides additional profit potential stating the benefits are cumulative and that the longer the cycle continues the greater the company’s financial strength. To put it in a nutshell, a major impetus for the development of RM has been a growing awareness of these potential long-term benefits. Despite RM’s concentration on retention, no company can practically hold on to all its customers. Total customer retention is never attainable as customers may switch to another product or service on the basis of criteria that may not be within the control of the enterprise. In addition to that, it may also be unprofitable to attempt to achieve a near total retention as the costs involved are likely to be prohibitive. Retention strategies should therefore not be aimed at keeping customers at any cost. Whereas in many industries it can be stated that the cost of acquisition exceeds that of retention, it is by no means a universal truth as it depends on company-specific factors and industries. Economics of Retention Strategies RM can be regarded as an alternative to mass marketing and, as such, marketers’ commitment to such strategies are only applicable when they are affordable and practical Source: Adapted from Egan, 2008 Offensive marketing Defensive marketing Customer acquisition Customer base Customer retention Figure 1.1: Leaky bucket theory Kapitel_1.indd 10 03.08.2010 12:45:30 Uhr 1.3 Relationship Economics 11 (Berry, 2000). Consequently, the economics of costly relational techniques must, in circumstances where acquisition and retention cost ratios are small, be closely examined. This is especially evident in the case of many costly loyalty schemes in which incentives to retention are costs that (if profitability is to be maintained) may lead to higher prices. The evidence that exists suggests that, in industries where recognizable high front-end costs (i.e. cost of personal selling, direct and indirect costs of detailed information gathering, supply of equipment, advertisement and other expenditure) are involved, these are drivers to relational strategies that promote customer retention over customer acquisition. Where acquisition costs are relatively low and/or where the real difference between acquisition and retention costs is marginal, the introduction of costly relational strategies may become a financial burden. Retention economics are also promoted as a time-based type of competitive advantage through the suggestion that investment in long-term relationships brings long-term advantages (Egan, 2008). Relationship investment in this respect refers to the time, effort and resources that the supplier invests in building stronger investments (Palmatier et al., 2006). Gummerson has introduced the phrase ‘return of relationships (ROR)’ to describe the expectation that there would be a return on this investment. ROR can be defined as ‘the long-term net financial outcome caused by the establishment and maintenance of an organisation’s network of relationships’ (Gummerson, 1999). The long-term orientation is often emphasized as it is believed that loyalty is cumulative as stated above. Long-term benefits may be considered from two perspectives: relationship stages;• the lifetime value of the consumer.• Relationship Stages The definition of RM anticipates that, once a company begins thinking about individual customers, it must recognize that different customers are at different stages of relational development. Most importantly, it also suggests that each customer type (e.g. prospect, customer) should be treated in a different way like separate targeted messages and diverse value propositions. The appreciation of different relational stages in RM also includes the assumption that the higher the stage of development the greater the profitability to the business. Dwyer et al. suggest a five-stage model where each phase represents a major transition in how parties in a relationship regard each other (Dwyer et al., 1987). These are the following (Figure 1.2): Awareness• is where one party realizes that the other party is a ‘feasible exchange partner’. Interaction has not yet taken place although there may be ‘positioning’ by the parties. Exploration• refers to the ‘research and trial stage’. Partners consider obligations, benefits and burdens of the exchange. Expansion• refers to the period where there is a continual increase in benefits obtained by partners and where they become progressively more interdependent. Commitment• relates to the implicit or explicit promise of relational continuity between the parties. Dissolution• implies that disengagement always remains a possibility in any relationship. Kapitel_1.indd 11 03.08.2010 12:45:30 Uhr 1. Fundamentals of Relationship Marketing12 Other models suggest relational stages of customer development. The established concept of a ‘ladder of loyalty’ was adapted by Payne et al. to create a ‘relationship ladder’ (Payne et al., 1995) . Kotler also proposes a stages model. All of the three models illustrated in figure 1.2 promote the belief that, whereas traditional marketing’s interest end with the sale, RM’s interest extends beyond this to the development and enhancement of the customer relationship. In the Kotler model the process begins with the suspects. Prospects are at a higher level and have in most cases given some indication that they are likely to purchase the goods or services on offer. Kotler differentiates between ‘first-time’ and ‘repeat customers’. With repeat purchases the consumer has actual experience to persist. It is at this point that the relational marketer is seen to diverge from the traditional marketer, whose interest is seen to be predominantly in the single transaction. The essential task of the relational marketer from this point is to become skilful at moving customers to higher stages of relationship, with each stage representing a strengthening of the company’s relationship with the customer (Kotler, 1997). The Kotler model suggests that the enterprise is looking to transform repeat customers into ‘clients’. The further jump to the status of ‘advocate’ implies that the customer moves from being responsive to the company to becoming actively involved, most usually through word-of-mouth recommendation. ‘Members’ implies even greater affinity to the company while finally ‘partnership’ Source: Adapted from Egan, 2008 Commitment Expansion Exploration Awareness Partners Members Advocates Customers Clients Prospects Partners Members Advocates Clients Repeat customers First-time customers Prospects Suspects R el at io ns hi p m ar ke tin g Tr ad iti on al m ar ke tin g (Dissolution) (Source: Based on Dwyer et al., 1987) (Source: Adapted from Payne et al., 1995) (Source: Based on Kotler, 1997) Figure 1.2: Relationship ladder and stages Kapitel_1.indd 12 03.08.2010 12:45:30 Uhr 1.3 Relationship Economics 13 suggests a relationship on such a high level, that the customer becomes part of the valuecreation process. Lifetime Value of the Customer The increasing importance of RM was driven, in part, by the realization that people engage in relationships over lifetimes. The ‘lifetime value’ concept concludes that an enterprise should restrict taking a short-term view but rather should consider the income derived from that company’s lifetime association with the consumer. In the framework of an integrative customer retention strategy a company should consequently project the value of individual customers over time rather than focus on customer numbers only (Dawes and Swailes, 1999). Decisions concerning investment in relational approaches should be made on the basis of the customer’s lifetime value. These investments may include those designed to enhance product or service quality in order to improve competitive positioning, or defensively to discourage defection to the competition. In the latter case the enterprise can create ‘exit barriers ’ to promote retention by making switching costs high. Switching costs are effectively barriers to exit from the relationship from the perspective of the customer. In this respect RM strategies are likely to be more successful if there are long time horizons and high switching costs. These are monetary and non-monetary costs that customers face when switching from one supplier to another. (Kinard and Capella, 2006). Switching costs may be created by the supplier, by the customer or by the relationship itself and include for example search costs, learning costs, emotional costs, financial costs and legal barriers (Egan, 2008). Relationship Longevity As stated above, customer retention leads to enhanced revenue, reduced costs and improved financial performance. The benefits that contribute to an entire ‘life cycle of profits’ from the customer are as follows (Figure 1.3): Source: Adapted from Reichheld, 2008, modified 0 1 2 3 4 5 6 7 ß Base profit ß Acquisition costs ß Profit out of mark-ups ß Profit because of recommendation ß Profit due to lower distribution and administration costs ß Profit as a result of increased buying frequency and higher average purchases Figure 1.3: Profit growth over time Kapitel_1.indd 13 03.08.2010 12:45:31 Uhr 1. Fundamentals of Relationship Marketing14 profit growth as a result of increased buying frequency and higher average purchases• profit due to lower distribution and administration costs• profit because of recommendation• profit out of mark-ups• 1.4 Relationship Drivers Within the previous sections the concept of ‘driver’ toward relational strategy was already introduced and discussed, such as high customer acquisition costs and high exit barriers. In this part we will look at other drivers that appear to have an important bearing on the decision to develop a relationship marketing approach, in particular: risk, salience and emotion• trust and commitment• customer satisfaction (Egan, 2008)• customer gratitude (Palmatier et al., 2009)• Risk, Salience and Emotion As noted above, marketing academics and the relationship marketing literature suggest that the greater the perceived risk , the greater a customer’s propensity to engage in relational-type behaviour and the more such strategies prove to be successful. A key reason why so-called high-risk purchases are likely to benefit from RM strategies is that a relationship is likely to lower the perceived risk as the customer gets to know the supplier. The existence of risk creates an opportunity for trust (Rousseau et al., 1998). Salience may be regarded as the level of importance or prominence associated with the relationship. In situations characterized by high risk and salience, the consumer may enter the exchange with specific expectations associated with rather intense emotions. Consequently, a customer is intensively seeking specific reassurance and reduction of risk and uncertainty. These situations therefore appear to benefit from the closer ties and more frequent communication associated with RM strategies. Products and services that generate emotions tend to be highly personalized and usually associated with self-worth. These categories include products such as clothing and services such as beauty. If the benefits associated with these products and services are emotionally important to consumers, then they are salient and the customer is likely to be risk averse. In these circumstances, relational strategies are instrumental to secure customer’s loyalty and drive RM strategies (Egan, 2008). Trust and Commitment Trust creates benefits for the customer (e.g., relationship efficiency through decreased transaction costs) that in turn foster his or her commitment and loyalty to the relationship (Morgan, 2000). Therefore, confidence benefits/trust should positively influence the customer’s commitment to the relationship. Morgan and Hunt define trust as confidence in the exchange partner’s reliability and integrity (Morgang and Hunt, 1994). Trust is seen as an important driver to both relationships and relationship enhancement in that it would seem to reduce risk perception. As well as generating cooperative behaviour, trust may (Rousseauch et al., 1998): Kapitel_1.indd 14 03.08.2010 12:45:31 Uhr