Excerpts from The Loyalty Effect [Part I]

Frederick F. Reichheld, The Loyalty Effect

From CHAPTER 9

RECLAIMING SUCCESS AT AMERICAN EXPRESS

Founded in 1850 as an express company to transport freight, packages, and money, American Express introduced traveler's checks in 1891 and enjoyed extraordinary success through the 1970s and early 1980s. Profits grew from $100 million in 1970 to $1.25 billion in 1985. By the mid­1980s, however, American Express had penetrated most of its targeted customers. The target customers were a segment of upscale business executives and frequent travelers and its bankcard competitors. Envious of such success were mounting an unprecedented assault on these highly prized customers to steal their spending. Amex's competitors introduced gold cards, cards with no annual fee, cards with frequent traveler rewards, and cosponsored cards like the GM card that offered unique benefits. As bankcards extended their customer reach upward, the distinction between the two products began to blur. Some core customers became less loyal, shifting a portion of their plastic spending to bank cards, and some began to defect.

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The bankcards challenged merchant loyalty as well. Because of the revenue advantage consumer interest charges gave them, bankcard issuers could offer some merchants a lower price for processing customer transactions. Merchants chose to accept American Express, even at a premium price, because its cardholders spend more money on more profitable merchandise and are in lovely general customers. But now there was a risk that merchant perceptions­­and behavior­­would change. As the percentage of Amex cardmembers who also held Visa and MasterCard grew. There was a danger that some merchants would become less willing to pay higher American Express fees and begin encouraging customers to use a bank card instead. The value proposition that American Express could offer merchants was being publicly challenged by Visa and needed a shot in the arm. As in the insurance business, churn roiled the cost structure and made growth even more challenging to achieve.

When Harvey Golub became CEO, he and his executives recognized that short­term, incremental solutions would not be enough to protect and enhance their leadership position. They revisited the economics of their business and thought hard about how they could revitalize the value proposition both for their core members and for merchants. Golub and his team wanted to know which segments were in a position to repay clearly superior value. With a conspicuously more significant share of wallet, so they built up a detailed picture of the lifecycle plastic spending and lifetime profitability of various customer segments.

American Express had always maintained an influential and highly respected marketing capability. While its traditional diagnostic tools were insufficient to the task of searching out the ultimate root cause of rising defections. Recognizing that it had to dig into the available data more aggressively, the company embarked on a two­stage analysis of its card business.

First, Amex segmented its target market based on the net present value­­to itself, and its competitors­­of current and potential customers. For example, customers who carried large credit balances were historically more valuable to bankcard competitors. While high spenders who preferred to pay in full each month were more relevant to American Express. This segmentation gave the company a picture of how vulnerable some of its current customers were to competitors' value propositions.

The second stage was an in­depth root­cause analysis of customer behavior that enabled American Express to understand what drove the most critical customer decisions­­share of wallet, usage frequency, and defection. By combining this analysis with a clear understanding of competitors' capabilities, constraints, and intentions. American Express was able to design genuinely world­class value propositions for the customer groups it wanted to retain and attract. It tested these value propositions, revised them based on customer feedback, and has begun to roll them out around the world.

Senior management mobilized the organization with a visionary goal­­100 percent of its target customers' flexible spending. While it may take years to achieve or even approach this ambitious target. The vision itself commits the company to earn the most reliable and most sustainable loyalty in its industry. It has helped the company to move from product­based systems to relationship­based systems. For example, if customers need a Gold Card, a Corporate Card, and an Optima Card to cover 100 percent of their spending. The company now communicates with them as individual customers who happen to have three products rather than as three customers of three product lines.

The company is also developing more value­added services for merchants worldwide. That includes a program that will allow them to sign up as "loyalty partners," so their customers can earn points based on the purchases they charge on their Amex cards­­points. They can redeem for a broad range of incentives, including frequent­flier miles and merchandise. American Express now also offers an improved billing statement that allows merchants to communicate more efficiently with their customers.

American Express has already made substantial strides toward the 100 percent objective. It has launched several innovative new credit cards. It is signing up new merchants worldwide at the rate of one every two minutes. It has learned a good deal about what its name represents in the minds of its core customers and has developed a much clearer strategy for building its future. Together, these efforts have contributed to a substantial increase in card­business profits.

American Express responded to competitor forays on its customers with an ambitious set of changes and is now tracking its progress by rigorously measuring customer loyalty in all its targeted customer segments. It has recognized that commitment is more than products and programs­­it is the core of a competitive strategy.

Earning customer loyalty in any business requires intense focus, careful analysis, consistent actions and investments, and a passionate concern for customers­­but the benefits of success can change a company's overall trajectory and potential. Companies that ignore customer loyalty to shore up their short­term profit margins are choosing a far riskier and ultimately more arduous future. The symptomatic relief they often seek merely aggravates the illness, because the management tools that fix profits were not designed to examine, correct, or for that matter even uncover the potentially much more serious flaws in a company's value proposition. On the contrary, concentrating on immediate profit improvement tends to undermine whatever value the company still can deliver to customers and employees.

Companies cannot succeed or grow unless they can serve their customers with a better value proposition than the competition. Measuring customer and employee loyalty can accurately gauge the weaknesses in a company's value proposition and help to prescribe a cure.

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From CHAPTER 10

Partnerships for Change

IN BUSINESS, change has become rampant. Over the last twenty years, we have seen revolutions in dozens of areas, from global competition and information technology to customer service, employee empowerment, and corporate governance. As a group, corporate executives have probably lost a century of sleep trying to make sense of. It all and keep their companies on course and a step or two ahead of the chaos. Indeed, change management has become a discipline in its own right, the subject of an endless stream of expert advice­­one more skill to be mastered and then always adapted to new conditions. But change management is by definition an elusive goal. For that matter, change management is an understatement. Turmoil management would be closer to the truth.

So what you and most other managers now do is try one new approach after another (without ever quite achieving the advertised result) in an effort to address the long list of fundamental shifts and alterations your company must make if it is going to survive and flourish. The last thing you need right now is three new change programs for customers, employees, and investors. What you do need is a framework for simplifying, coordinating, and prioritizing all the necessary changes you already have in the works throughout your organization.

This is precisely what loyalty­based management provides. And once again, it is the loyalty leaders that can show you how it's done. It's easy to dismiss loyalty leaders as models. After all, they've been working on value creation and loyalty for decades, so while they present a clear picture of the ultimate goal, that goal is a long, long way from the challenges you face today. What you need to know is what to do next week and next month in order to begin reducing defections. But when you look at loyalty leaders, you see ends, not beginnings­­or, so it seems. In fact, loyalty leaders are superb models of change management. They've been able to build winning management systems by aligning all the components of loyalty and then keeping them aligned through twenty or thirty years of rapid, confusing change. What lies at the root of their ability to cope with constant change is not something they did years ago; it's what they are doing right now and always have done­­things all companies need to do to keep on a steady course and an even keel.

Loyalty leaders follow two fundamental precepts. The first is to nurture a clear sense of company mission based on value rather than profit. The second is to use the power of partnership to align, motivate, and manage the members of the business system. Together, these two principles make up a navigational regimen as dependable as any compass.

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