In general, there are two main methods your business can pull to affect growth metrics: 1) customer acquisition, which means bringing new customers through the door, and 2) customer retention, which means keeping your old customers from leaving that door.
Each is a necessary part of business growth, but which is more cost-effective—and which should you prioritize for your small business?
It has long been reported that customer retention has a high ROI. But is it really so? Here, I examine the evidence to distinguish which is which actually which is more expensive—customer retention or customer acquisition.
Customer acquisition versus retention: Examining the numbers
“Obviously, customer acquisition,” you say, because you are not new to the business. Everyone has seen the statistic that it costs 5X more to acquire a new customer than to retain an existing one…
Stat #1: It costs 5 times more to acquire a new customer than to retain an existing one…
That's a good number! But have you ever tried to find the source? Go ahead, Google it and you'll be clicking on tons of articles and infographics that quote one another, but you'll probably never find the actual report or survey where that 5X figure originated.
I'll save you some time: The statistics go back to a report released by Lee Resources in 2010. The report itself, I can't find it online. And Lee Resources' only social media presence, Twitter/X, last tweeted in 2013. Their Facebook page no longer exists.
Their oft-quoted figure of customer acquisition costing 5X more than retention may be correct—but there's no way to know without seeing an actual report.
Figure #2: Increased customer retention leads to a significant increase in company profits…
According to Bain & Company, “a 5% increase in customer retention increases a company's profits from 25% to 95%. That's amazing!”
But, have you ever tried to find the source of this? I have it. Sites often link back to this short summary by Fred Reichheld. Unfortunately, “95% increase in profit” is not in these 3 pages. The “25 percent increase in profits” exists, but a) no actual research/testing has been reported, and b) it is only referenced. financial services.
I the original The source of this figure is actually a paper by Reichheld and W. Earl Sasser, Jr. entitled “Zero Defections: Quality Comes to Services.”
There are a few things you should know about this paper:
- There are actually statistics close to the “95% profit” mentioned above: “Reducing fragmentation by 5% produces 85% more profit in a single bank branch system…” one bank.
- This paper was published in 1990. 32 years ago and in the same year Tim Berners-Lee invented something called the World Wide Web.
This equation may not be entirely applicable to online trading—something that hasn't been invented yet.
If anything is clear, it's that these oft-cited references should be taken with a grain of salt.
Customer retention will not always have a high ROI
So what was the point of this exercise in fact-checking? It is less obvious that the ROI of customer retention is always greater than the ROI of customer acquisition. It varies by industry, by company, and even down to the types of marketing and sales tactics your business uses.
Customer acquisition versus retention: What to consider
When answering the question of which is better – customer retention or acquisition – the real answer is, it depends. In many respects, in fact, including, but not limited to the following:
- Your productivity is expensive compared to operating costs
- Your product type
- Estimate your contract type and size
- What stage of growth is your company in?
- How good is your tracking data
- The macro-environment and industry at large
Think about it logically in the context of the company's growth period:
Keeping customers at the beginning of the growth curve can be expensive, but it won't be. better the success of your fledgling company. The acquisition of new customers is very important at this stage of the life cycle.
On the other hand, retention is important when a company has grown and has a large customer base to retain and grow.
It depends on the business itself.
Consideration #1: Do you offer products or services? And what kind?
Retention is a good idea, but what if your business produces a lot of products that last a lifetime? Think of well-crafted metal masks and Christmas tree stands; things the average customer will need to buy once or twice forever.
Perhaps you offer services of some kind—either digital or physical. Retention will be the most important factor in growth.
Consideration #2: What size and type of contracts do you work with?
The type of contract is also very important to consider. Subscription businesses may tend to be more conservative, as well as companies with longer sales cycles, say 3 months or more.
Consideration #3: What stage of growth is your company?
If you have a fast-growing small business, you may want to be acquired (at least temporarily).
And there's a good chance you don't have reliable storage data yet.
Attributing customer retention is more difficult to accurately capture compared to acquisition. This can make it difficult to prove your ROI. Do you have reliable retention data you can trust to base future growth decisions on?
Consideration #4: What does the large area look like?
You can't ignore the state of the industry and the economy when deciding whether to prioritize buying or keeping.
If you offer a service, during a recession, your focus will eventually have to increase.
The spending decisions of your customer base are changing in a big way. So should your growth strategy.
A final consideration…
How about one last thought experiment that works: say you want to double your business.
Would it be easy to find each of your customers double the money they spendor double the size of your customer base? Suddenly, the obvious answer may not be so obvious for your business.
Final decision
It is more important to track your business marketing and sales expenses accurately than to rely on “conventional wisdom” that may not be accurate for your business.
By understanding your finances, you can calculate your own ROI on acquisition versus retention, giving you the best data to work on moving forward.
Perhaps the best and most important growth metric of all? Customer Lifetime Value (LTV).
In an ideal world, you would always prioritize the customer (new or existing) with the highest customer lifetime value.
Customer Lifetime Value (CLV): The most important metric
I really like this Forbes article that touched on the absurdity of that 5X figure as I did:
Consider what Wharton Marketing Professor Peter Fader told you in an email interview: “Here's my take on that old belief: who cares? Decisions about customer acquisition, retention and development should not be driven by cost considerations—they should be based on future value.”
Fader added, “If we can clearly see CLV as a cost, all companies can get this. But because costs are so tangible and CLVs are just a guess, it's really hard to get firms to embrace this mindset.
CLV is an important metric for your business to earn the right to answer the last question when compared to acquisition.
Although CLV should always improve (meaning your business becomes more “sticky” and loyalty increases), it may not be large enough to justify the cost of acquisition. Alternatively, if your CLV is good because your churn rate is so low, then retention is already efficiency and focus on procurement.
At the end of the day, no standard statistic should drive the direction of your business.
*******
Disclaimer:
The views and opinions expressed in this blog are those of the authors and do not reflect the official policy or position of Lendio. Any content provided by our writers is their own opinion and is not intended to defame any religion, race, group, organization, company, individual or anyone or anything.
The information provided in this post is not, and is not intended to, constitute business, legal, tax, or accounting advice and is provided for general information purposes only. Students should contact their attorney, business advisor, or tax advisor for advice on any matter.
Source link
