Customer profitability models have evolved into an important strategic tool for marketers in recent years. The authors show that conventional models may be inappropriate for markets involving new products or services because they fail to account for the social effects (e.g., word-of-mouth and imitation) that can influence future customer acquisitions. They develop a customer profitability model that captures these social effects and show how the value of a lost customer depends on (a) whether the customer defects to a competing firm or disadopts the technology altogether and (b) when the customer disadopts the technology --distinctions often overlooked in customer retention models. An empirical application of the model to the online banking industry shows that the financial impact of disadoptions can be substantial. The results demonstrate that firms suffer financial losses not only when their own customers disadopt a new service or product, but also when their competitor's customers disadopt. By incorporating the effect of competitors' disadopters into the customer profitability model, the authors identify a heretofore unrecognized link between a firm's market share and customer profitability. In addition, the model enables the firm to quantify the value of a lost customer throughout the product lifecycle with the results demonstrating that the loss of an early adopter costs the firm much more than the loss of a later adopter. Results also suggest that managers must pay greater attention to post-purchase service strategies early in the product-market evolution to minimize the effect of disadoption on future customeracquisitions. An appealing aspect of the proposed approach is that it can be implemented using a spreadsheet, making it a practical tool that can help firm's manage their customer relationships more profitably.3
In this article the authors demonstrate how a customer lifetime value approach can provide a better assessment of advertising effectiveness that takes into account post purchase behaviors such as word-of-mouth. While for many advertisers word-of-mouth is viewed as an alternative to advertising, the authors show that it is possible to quantify the way in which word-of-mouth often complements and extends the effects of advertising. The authors provide a simple approach to the measurement of post-purchase word-of-mouth sales effects and demonstrate how firms may be underestimating advertising effectiveness by ignoring such effects. Their approach illustrates how customer lifetime value models can provide an important tool to assess the long-term effects of advertising campaigns. 1 Measuring Advertising Effectiveness: How Can We Improve?Debate over how best to determine advertising effectiveness has continued unabated for decades as firms struggle to justify expenditures for one of the largest line items in the marketing budget. Participants in this debate often fall into two camps based on whether they focus on individual or aggregate level advertising response. Advocates for individual response models rightly argue that it is essential to understand how consumer's process and react to an ad in order to better manage the development and deployment of advertising copy. Critics of individual level models argue that such models do not provide a clear linkage between the individual's attitude formation and firm profits. In contrast, aggregate response models can be more clearly linked to profitability, but often provide few insights into the underlying processes driving sales growth and profits.Models that bridge this gap between individual behavioral response models and aggregate models of long-term profitability have begun to emerge. The key to such models is an understanding of how an individual's purchase behavior contributes to firm profits over time. In recent years, significant advances in the realm of customer profitability modeling have led to models that map individual customer behavior directly onto a measure of long-term firm value. These customer lifetime value (CLV) models enable firms to calculate the value of a customer acquired through advertising (or any other means) and to determine advertising's effect on customer repurchase, willingnessto-pay, word-of-mouth, and other behaviors that drive profitability.1 Although CLV 1 Customer lifetime value is calculated as the expected net profit that will be received from a customer over a specified time horizon (i.e., customer future revenue less the costs of acquiring and serving the customer), taking into account the customer's retention rate, discounted to the present. For an overview of CLV models, see Berger and Nasr 1998, Jain and Singh 2002 2 modeling is still in its infancy, a growing number of leading firms currently use the approach to guide resource allocation decisions for activities such as advertising (Brady 2000). As more firms turn to C...
As more firms adopt a customer asset management approach to their business, it has become increasingly important to understand how customer management efforts relate to the financial performance of the firm. Of specific interest to shareholders is the relationship between traditional financial measures and customer-centric measures. The customer-centric measure that has received the most attention is customer lifetime value (CLV). In this article, the authors argue that the basic CLV model represents a useful foundation from which to begin to fill the gap between marketing actions and shareholder value. However, much work remains to be done before appropriate models can be developed that reflect the true value of a customer to the firm. Specifically, this article elaborates on how factors such as risk associated with customer behavior dynamics, social and competitive effects, and the effect of the product life cycle can be incorporated into the basic CLV model.
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