Why Customer Loyalty Is So Important to Investors

It should come as no surprise that customer-obsessed companies also make for excellent investments. After all, happy customers stay with a company longer and buy from said company more often, which directly correlates with a company's top and bottom line.

The American Customer Satisfaction Index (ASCI) took things a step further and connected the dots between happy customers and investment returns. In April 2000, the ASCI built an investment portfolio that weighted the allocation of its stock positions based upon customer-satisfaction metrics. Over the next 16 years, it outperformed the S&P 500 by more than 600%. The portfolio still exists, and its three largest current positions are Apple, Amazon.com (NASDAQ: AMZN), and Alphabet, respectively.

A customer-focused leader

But the truly great companies also put their money where their mouth is. In addition to having customer-friendly mission statements and a customer-obsessed culture, they're willing to invest billions of dollars into future initiatives to benefit those who do business with them. Often times, even the customers are unaware with these initiatives, or unfamiliar with exactly how they'll use or benefit from them.

Amazon is the quintessential example. CEO Jeff Bezos outlined in his 2016 letter to shareholders that Amazon was built upon three pillars -- Prime, Marketplace, and Amazon Web Services -- and committed to invest relentlessly to improve the availability, speed of delivery, and price related to these pillars. His investments have included deploying autonomous robots, delivery drones, and at least 66 price reductions for AWS.

Customers might not know everything going on behind the scenes in Amazon's warehouses or data centers. But the company's obsession with hitting these customer-satisfaction metrics has created a very loyal customer base. Amazon now has 100 million Prime members, and most didn't bat an eyelash when the price of Prime increased from $99 to $119 earlier this year.

The next wave of customer satisfaction

Of course, hindsight is always 20/20. It's easy to look at the past two decades and see all of the things that Bezos & Co. have done well. Amazon is now worth $1 trillion and is the second-largest company in the S&P 500.

But are there things that smaller companies can do to engender customer loyalty? And are there initiatives that don't cost billions of dollars that can simultaneously increase customer satisfaction and provide a good return on investment for shareholders?

To answer these questions, I recently spoke with customer loyalty expert Barry Kirk. Kirk is the vice president of loyalty at Maritz Loyalty, which helps companies build strategies to connect in more personalized ways with more than 100 million customers across the globe.

In our conversation, Kirk discusses the importance of creating emotional and personal connections with customers. He mentions Southwest Airlines (NYSE: LUV) and Blue Apron (NYSE: APRN) as two examples of businesses with excellent loyalty programs, and describes what investors should look for to determine if companies are succeeding at customer satisfaction.

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Simon Erickson: Hi, everyone. Motley Fool Explorer lead advisor Simon Erickson talking this afternoon about customer loyalty, and I'm joined by my guest, Barry Kirk. Barry is the Vice-President of Loyalty for Maritz Motivation Solutions. Barry, thanks so much for joining me this afternoon!

Barry Kirk: Very happy to be here with you.

Simon Erickson: Barry, we know that companies want to keep their customers happy and have them buy more things over longer periods of time. That comes as no surprise. But maybe just to start this off, can you tell us about what are some of the more common business loyalty practices that companies are already doing in today's day and age right now?

Barry Kirk: Well, the most common one that probably any one of us who had a consumer experience is aware of is the points-based program. Those have been pretty dominant since the '80s, where essentially whether it's miles or points or some other kind of rewards currency, in exchange for your transactions with the brand, you earn points. And as you earn more, you're able to move up through tiers in that experience. They're essentially highly gamified consumer interactions.

The interesting thing, though, about that being the most common form of loyalty program in the market is there is significant data over the past five to eight years indicating that that model is sort of in decline. It's starting to show fatigue. It still works. It's very effective for a lot of major brands. But it's not as effective as it used to be, particularly with millennials, who sort of have a reaction to it that this was the loyalty program of my parents and grandparents, and it's not grabbing me. It's not as interesting as it might have been for somebody who first encountered this as a new idea in the '80s or '90s.

Simon Erickson: And Barry, you had spelled out a couple of shifts that are happening in this loyalty landscape right now. One of them that you said was that the points currencies are getting liquid. Can you explain what that means?

Barry Kirk: Yeah, this is a really interesting development, which is the idea that consumers, frankly, are not as inclined now as they were 10 or 15 years ago to wait long periods of time before their currency can actually be cashed out for something. If you think about being engaged in an airline program, it could take sometimes a year or more for the average consumer to earn enough miles for a free flight, whereas a business traveler probably is earning them on a much more frequent basis.

So consumers are just increasingly less tolerant of waiting those periods of time, and so a number of brands are moving now toward what we refer to as liquid currency, which is the idea that I can essentially spend my loyalty currency and my points as if it were cash and in very small increments. So I might swipe my credit card and be in a credit card loyalty program, and it might give me the option at the point of sale to say, "Do you want to pay for this just like a regular transaction? Or you have $50 worth of points. Would you like to use some of those points to cover the cost of this transaction today?"

It's very popular right now with brands to offer this as an option. The one caveat I would have for that from a human-sciences perspective is when you're redeeming your points at a very low threshold like that (let's say $5 or $6 worth of accumulated equity) on something that's pretty mundane (like maybe you'd use it at a gas pump or at a convenience store), there's very little of what I would call memory halo around that experience.

So if I spent a year working toward a flight, I'm doing a lot of time thinking about that brand, thinking about engaging with that brand, thinking about that trip I'm going to take. So when I finally do redeem those points, it's a significant experience. Compare that to redeeming $5 worth of points at McDonald's, and it's not going to have the same impact on the loyalty.

And so brands really do need to balance the need to sort of meet this expectation of consumers with the original goal they had, which was to drive loyalty and engagement with the brand itself.

Simon Erickson: Sure. So the bar's getting lower for these point-based programs that we're seeing.

I want to change directions a little bit and see what companies should be doing if that's kind of declining for millennials out there. Barry, a smart man once said that loyalty is tricky. It requires focus on just the right customers with just the right strategy. That smart man was actually you. That was a quote of yours. I know that you've done a recent study across a variety of industries kind of looking at how loyal different customer groups are, and you've actually classified them into resolute, transient, and detached loyalists. Can you tell me a little bit about what you found in that study and what that means?

Barry Kirk: Yeah, interestingly, what we learned from the study that we ran of about 2,000 US-based consumers is 68% of consumers today fall into a category that we define as transient. That's essentially consumers that say, "Sure, I'm loyal to some brands, and I might see those as my primary go-to brands, but I'm always looking around for somebody to offer something better." This is in contrast to about 29% of consumers who we would characterize more as resolute. Essentially, these are consumers who say, "I'm attaching myself to this brand, and I do not look at the competitor anymore. I don't compare price. I don't compare service, because I've made a decision that this is my brand."

And if you think about that from the brand perspective, where do you want to be? Well, you want to be in that category where most of your customers look like resolutes so that you're building off of that, and potentially, they're also advocating for your other customers to come into that brand.

But we're in a market right now where I would actually say points-based loyalty programs have driven a lot of this transient loyalty. Points-based programs are so transactional that there isn't a reason why I wouldn't be constantly looking at the other competitor program or the other competitor brand to see, well, can I get a nickel more out of the experience. So we're definitely seeing a need, because of that particular make-up of the US population right now, to figure out, well, how do I make more resolute loyalists? And it really is going to line more up with driving more emotional connection and personal connection with a brand, as opposed to a mercenary offer in the form of points or a discount.

Simon Erickson: Can you give some examples of those emotional, personal connections to getting those resolute loyalist groups?

Barry Kirk: Yeah, I can give you an example really of one that interestingly sits within what we would call more of a mercenary program. Southwest Airlines, which if anybody knows me, they know it's a brand that I'm fiercely loyal to, they have a traditional points-based program. Any time that you fly, you earn points, and you can get flights under that.

But one of the interesting things that they've had in their program for a number of years is something referred to as a companion pass. That companion pass is an element of that experience that says if you fly enough with us, you actually earn the ability to bring along your companion for free every time you fly. And you can designate anybody you want to be that person.

That's sort of connected to a mercenary-like experience. I have to fly a lot with Southwest to earn that benefit. There's an emotional connection to the idea that I love Southwest so much that I want to share it with my most important person in my life whenever I travel, and Southwest makes that possible. They make that social connection possible.

Another quick example would be Blue Apron. Blue Apron doesn't really technically have a loyalty program, but they do have a loyalty strategy. And this is the company that allows you to order the food kits to your home and prepare your own meal. Blue Apron incorporates a loyalty tactic referred to as a pro-social reward. So they encourage their customers to refer new customers, but when they ask you to refer, they don't tell you what benefit you're going to get. They tell you what benefit you're able to give to the person you refer. So essentially, what they give you is, every week you're a customer with Blue Apron, you earn a free week to give to somebody else.

That's a very different kind of emotional construct than saying, "Well, you earn a $5 discount on your next order." They're essentially saying that we want you to share the experience that you love so much of our brand with other people. And there's a little bit of status mixed in with the idea that I can tell a friend who brings up Blue Apron in a conversation, "Oh, I'm already a great, committed customer of theirs. I'm such a great customer, they've given me a free week that I can give you." So those are really much more powerful ways, I think, to begin to develop loyalty that don't come down to how many points have you given me or what kind of a discount have you given me.

Simon Erickson: I think that sharing mindset is a perfect segue for the next question I wanted to ask, which is that you've already got some companies out there that are very large. Southwest obviously one of those. I would say Amazon is probably the quintessential example of this, that have just dominated their industries, right? They've got billions of dollars they put over decades into building that infrastructure and building out these giant user groups.

It seems, if you're a smaller company, it would be very difficult to compete with one of these larger companies, just because they have the massive scale already built. And all of that's already 20/20 hindsight. It's easy for us to go back in 1996 and say, "Hey, let's look at Amazon today versus where we are now."

But at this point of the game, we're seeing a lot of shift to digital strategies. You mentioned one with Blue Apron right there on the sharing mindset. But are there initiatives that you're seeing smaller companies doing today -- which maybe the larger players aren't or they just can't — where these smaller companies, you think, might actually have an edge over their larger competitors?

Barry Kirk: Well, I actually think the strongest edge that the smaller companies have is that most of them probably don't have a formalized loyalty strategy in place today. Loyalty programs are fairly expensive to launch and to maintain if you're talking about the traditional form of loyalty. That points, rewards-based structure.

But the advantage, I think, that the smaller company has is, one, ideally they're closer to the customer. They might actually have more personal interactions with them. They can target them better because they just don't seem to be swallowed up in a company that might have 50-million customers that they serve. But my recommendation to those small companies, if they want to compete with larger organizations with very established loyalty programs, is do not copy anything they're doing today. If you don't have a loyalty program today, the one thing you should absolutely do when you go launching your program is do something completely different than has been done the last 20 years.

What I mean by that is predominantly do something that is less predictable. The large-scale enterprises have all put in place loyalty strategies which are highly predictable. They're rules based. They're structured so that I know exactly what I'm going to do and how it's going to work, and they don't have anything to keep your attention or make it very interesting. A smaller company that doesn't want to invest in the liability of a large-based points structure could do a lot more with surprise and delight and with also focusing on status.

My connection to a smaller company might be that I'm actually able to have a level of status there that I can never achieve in a large-based corporation, where I've got to spend way more than I have. And so creating a loyalty structure that's way more about, "We're going to give you sneak peaks into new product launches. We're going to have special events where, if you engage with us enough, you can come and be part of that special experience." And it doesn't always have to be transactional. It doesn't always have to be you spent more than somebody else. It might be that you're just more engaged socially online with talking about the brand, and, therefore, you have value to them.

But the key to that is keeping it unpredictable, or maybe predictably unpredictable, where you tell customers, "This is going to be a different kind of experience, and just keep an eye on what we're doing because we're going to keep introducing different ideas and different experiences for you to engage with. But it's not going to be your typical loyalty structure, where we just tell you how it's going to work, and then you're going to learn it, and then you never have to worry about figuring out anything else after that."

Simon Erickson: And we're in a social media world now too, Barry. I mean, any thoughts on how those strategies are going viral or very-low-cost or no-cost marketing to actually get that word out or get those programs out? Is that much more effective today than we've seen traditionally?

Barry Kirk: I think it can be. Another way that we look at customers within a loyalty context is whether they fall into the category that we refer to as cult loyalty, which is essentially where the loyalty you have to the brand is not so much about the brand itself, but about the other human beings who've chosen to be part of that brand. And so you see the power of social proof in that kind of a construct, right? So a brand that literally obviously falls in that category is a company like Harley-Davidson, so that essentially it's because you see other Harley riders that you become more committed to that brand that other people are telling you that that experience is part of it.

But obviously, social media is a great place for consumers to find other consumers who have made those same choices. And so I think, in that context, a customer of yours who may not be spending as much as another customer but who is a strong advocate for you in social media or is creating videos about your brand experience on YouTube, you need to begin to weigh when you do a customer valuation model, which is very common for companies dealing with loyalty, is how are you weighting the value of that social sharing, because it does have significant influence, particularly obviously with the millennials.

Simon Erickson: One last question for you, Barry. Our audience is individual investors here with The Motley Fool. We might not be experts on sizing up customer loyalty programs or really knowing the ins and outs of the industry. But are there certain things that we can look at that we could see as signs that companies are doing a good job? In these loyalty programs, are there certain things that you would recommend us to follow to know which companies are actually having loyal customers?

Barry Kirk: Well, I think there's maybe two ways of looking at that. One is spend some time just watching how that company interacts with their customers in the social channels, particularly how are they resolving issues when customers are using those channels when they are dissatisfied with the experience, because so much of what we're seeing in loyalty today is driven by the experience, not by price and not by discounts, but by whether you're delivering a superior experience.

An easy place to go and do that kind of research is just pull up Twitter and see what happens when there are complaints about that brand online from the customers. Do they respond quickly? Do they respond positively? And do you see a follow-up from those customers saying, "Hey, great. Thank you so much for dealing with it that way"? That would be a key that that's a company that actually understands loyalty.

The other really simple one I would suggest is take a look at that company and ask yourself the question, "Would I be loyal to this brand? Do I see things in here that would just tell me that this is a great brand? And if I compare this to any other brand that I have strong loyalty to today, do they match that profile?" So you have some sense from your own personal experience as a consumer whether they're doing the right things and saying the right things that would make them successful at not just acquiring customers, because so many companies just focus there and it's only the beginning, but actually retaining and engaging those customers so they stay for the lifetime. That's the most important measure really that they're doing that right.

Simon Erickson: Well, again, Barry Kirk is the Vice-President of Loyalty for Maritz Motivation Solutions. You can learn more about the company at www.maritzmotivation.com. Maritz is M-A-R-I-T-Z. Barry, thanks very much for the time with us this afternoon.

Barry Kirk: Thanks. I always love to talk about loyalty.

John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool's board of directors. Simon Erickson owns shares of Amazon. The Motley Fool owns shares of and recommends Amazon. The Motley Fool recommends Southwest Airlines. The Motley Fool has a disclosure policy.