A company has two ways to grow revenue. It can add new customers or it can generate more business from existing customers.
New business is sexy. It is exciting. Winning a new account gives the organization a thrill and offers you and your sales team validation. Top salespeople are rightly rewarded, celebrated and highly compensated.
Existing customers by contrast typically are handled via a customer service team or an account management team. These teams are rarely celebrated, are generally paid less and frequently are treated as a lower priority for the business. These teams frequently reside lower in the organization and often contain less-experienced people. And finally, these teams can lack clear goals because they either don’t know what their success metrics are, or more commonly, they lack the empowerment or authority to really be accountable for delivering the metrics across the organization.
When we tallied the priorities attributable to acquiring new customers and retaining or growing existing customers across the Alpine portfolio, we found roughly 70% of revenue-oriented priorities were focused on attracting new customers while only 30% were focused on generating more revenue from existing customers. The prioritization nearly everyone gets wrong is that these ratios should be reversed.
THE SURPRISING MATH OF RETENTION
Imagine that you have two different companies, each of which starts with $100 million of revenue. Acquire Company (“Acquire Co.”) has strong growth and reasonable attrition. Acquire Co. adds $20 million of new revenue annually and has 85% revenue retention from existing customers. Retain Company (“Retain Co.”) has less growth but outstanding retention. Retain Co. adds $5 million of revenue annually and has 105% revenue retention (i.e. revenue growth from existing customers exceeds revenue lost from existing customers via attrition by 5%).
After five years, Retain Co. is 38% larger than Acquire Co., and after 10 years, Retain Co. is approaching twice the size of Acquire Co. ($227 million vs. $119 million). And this is only the beginning of the story.
Given the difference in churn between the companies, $1 of new revenue produced by Retain Co. is worth $12.6 dollars over a decade whereas that same dollar is worth only $5.4 dollars to Acquire Co. Thus Retain Co. will be able to spend more in sales and marketing than Acquire Co. to attract the same customer. But they won’t need to, because Retain Co. will have a better, stickier reference base, a better reputation and more word of mouth marketing than Acquire Co.
Retain Co. will also have higher margins – much higher. In the numerical example above, Acquire Co. will need to invest in significant sales, marketing and commission expense to position it to be able to acquire $20 million of new revenue annually. Acquire Co. will also need implementation and customer service resources to on-board $20 million of new customers that Retain Co. will not need.
If we make some basic assumptions related to sales commissions, sales turn-over, ramp-up of new business, on-boarding and customer service costs, it is not hard to paint a picture, where Retain Co. will generate at least four times more profit in ten years despite the fact that Acquire Co is adding four times more revenue from new customers annually.
Companies like Retain Co. that serve their existing customers exceptionally well are fundamentally dominant businesses to those that only acquire customers well.
How do I improve retention and lifetime value?
High retention rates and lifetime customer value are core to the success of any given company, regardless of business model, and can be created via conscious strategic decisions.
When Doug McGregor became CEO of WebEquity in 2008, he inherited a sleepy company with low growth and without much innovation. The company had previously been a supplier software focused on agricultural loan management and had a best-in-class system for helping banks originate and track their agricultural loans. Doug made the strategic decision to focus his new product development on the EXISTING customer base, providing more functionality including loan management software for their commercial loans and tools to help manage risk. WebEquity sold these additional modules to existing customers, who, because WebEquity had produced high levels of customer satisfaction, were willing purchasers.
From the time when Doug became CEO of WebEquity in 2008 to the time we exited in 2014, the company increased recurring revenue by over 700%, a staggering rate of growth. The real key to WebEquity’s success is that roughly 50% of that growth came from the existing customer base.
Amazon presents another example of the power of focusing on existing customers. Online one-time purchases (should) come with tremendous competition, pricing transparency and switching costs limited to a few clicks. In the early 2000s, Amazon made a conscious strategic decision to focus on customer satisfaction rather than customer acquisition. The company directed millions of dollars of marketing expense to giving its customers free shipping.
Over the ensuing 15 years, Amazon has continued its relentless focus on existing customers and has grown revenue from $148 million in 2000 to $95.8 billion, a 15-year annual CAGR of an astounding 33%.
Berkeys, a provider of plumbing and HVAC services, adopted a model similar to Amazon’s “Amazon Prime” model. Amazon Prime customers spend 300% more than non-Amazon Prime customers and Berkeys has experienced similar results with its maintenance plan. Berkeys charges $179 for its maintenance program which includes three free tune-ups and 15% off the company’s rate book. Berkeys schedules the three free tune-ups during non-peak times when the utilization of its service techs is low. During these tune-ups, the technicians perform a multi-point inspection and provide routine maintenance. These visits help accustom Berkeys’ customers to regular visits, build customer loyalty, and lead to significant revenue through repeat purchases. Berkeys’ maintenance plans have helped transform an otherwise one-time purchase into a long-term relationship with the customer. Berkeys’ organic growth rate has exceeded 20% annually since our investment.
Two Steps to Translate Retention and Lifetime Value into Reality
Revenue retention rates of 105% or lifetime values which are 300% higher than the competition don’t just happen. They are the result of prioritizing measurement and accountability.
STEP 1: Measure
To quote the late management guru Peter Drucker, “What gets measured gets managed.” Consider measuring:
• Revenue generated by the existing customer base
• Churn of the existing customer base and the lifetime value of a customer
• Satisfaction of the existing customer base (Net Promoter Score (NPS))
• How much time your team spends in the field with customers learning how customers use your product and how you could improve it
Depending on your business, some of these measurements might be difficult and might need to be approximated. These measurements should become a part of your monthly dashboard.
STEP 2: Assign Accountability
Many leaders’ answer to who is accountable for customer satisfaction, churn or lifetime value is something like, “We are all responsible for churn.” Or “Well, customer service, technical support and the call center are really who is responsible for customer satisfaction.” But that is another way of saying, “Nobody is accountable.”
The way to truly know if existing customers are your firm’s top priority will be measured by the seniority and talent of the actual person to whom you assign accountability for each of the metrics above.
The assignment of an A player to a metric such as NPS or churn and the granting of resources and decision rights to this individual will move the meter on that metric.
Inspired by Alpine’s CEO offsite presentation on Building Raving Fans, Vionic co-founder and COO Bruce Campbell took accountability for improving customer ratings. Prior to this decision, due to high sales growth, average customer ratings were declining and had hit a 3 year low of 3.6 out of 5. In reading hundreds of reviews and hosting focus groups, Bruce determined that improving the fit of Vionic’s shoes would be the quickest and most impactful path to improving customer ratings. Bruce worked closely with the design and manufacturing teams to ensure they were getting fit right, addressing critical gaps in internal controls and also implemented a rigorous wear testing process. As a result of improving fit, Vionic’s average customer rating improved and is now at a record high average of 3.9 and climbing. Twelve months ago only 18% of product was scoring above 4.0, and today over 50% of product is scoring above 4.0. Bruce realized that customer satisfaction comes from maniacal and relentless focus of senior management.
The true tests of how committed you are as a leader to the concepts outlined here are: (1) what are you measuring, (2) who is accountable and (3) what resources and decision rights have been granted to that person.
Improving retention and lifetime value for existing customers should be the MOST IMPORTANT priority of a great, enduring organization. By focusing on your existing customers, you will build a strong brand, erect significant barriers to entry, and pave the path to long-term sustainable growth.