Comment: The Real Issue Isn't How ManyCustomers, But How Profitable

Using customer-based management for achieving competitive advantage is nothing new to modern business.

We have seen innovative strategies across a host of diverse industries including airlines, catalogue retailers, and automotive manufacturers. Indeed, customer-based management has long existed in the banking world, specifically in the area of credit cards, where customer loyalty has been the hallmark for profitability.

The challenge for retail banking leaders today is to manage their organizations not only through mergers and acquisitions, but also through the changing dynamics of the marketplace.

The shifting structure of the industry is creating opportunities for achieving a sustainable competitive advantage.

This article examines a few key trends and the implications of using a customer-based management strategy.

The proliferation of electronic banking. The primary delivery channel throughout the history of modern retail banking has been the branch office. The proliferation of technology in the banking community has reduced the need for branch access.

A customer-based management strategy would shift the bank from a branch- location focus to a customer-loyalty focus.

Because the majority of a bank's servicing expenses are incurred early in the relationship with the customer, losing an old customer and replacing it with a new one will prevent the erosion of the customer base, but not the erosion of value.

Banks are able to maintain a long-term cost advantage by retaining and servicing their more profitable, loyal customers.

In addition, banks would have a much clearer picture of their customer composition and can thus more accurately pursue the "right" customer.

The threat of new entrants. The trend toward alternative delivery channels such as the Internet and the increased diversity of product and service offerings have opened the door to a host of nontraditional entrants in financial services.

Though banks are certainly in no danger of losing their core dominance anytime soon, the entrants continue to endanger the balance of bargaining power within the industry by offering consumers more choices.

A customer-based strategy in essence offers a single service to the consumer-a partnership that delivers all banking needs.

Decelerating credit card growth. The days of new credit card customers knocking on a bank's door are over.

Since peaking in the second quarter of 1995 at approximately 34%, credit card growth has steadily declined to less than 20%.

As growth opportunities become more scarce, retail banking institutions will be forced to pursue growth strategies aimed at maximizing profitability from their existing customer base.

A customer-based management approach would allow managers to better leverage their relationship with customers across the bank's entire product portfolio and develop specific tactics to maximize profitability.

A product or functional approach limits the ability of the manager to understand the value of a customer to the bank as a whole and thus reduces the ability of the bank to provide superior service.

A shifting mind-set. These trends present a clear case in favor of transforming from a product- or function-based management strategy into a customer-based management strategy that seeks to capture maximum value from the consumer.

In fact, a Harvard Business Review article ("Manage Marketing by the Customer Equity Test," July/August 1996) states that the key criterion for pursuing new initiatives should not be whether they would attract new customers or increase retention rates but whether they would increase customer value.

An organization not operating within a customer-based management framework does not possess the internal controls to effectively measure, let alone manage, using customer value.

A simple example. Let's suppose a marketing manager has successfully increased the response rate from a direct-mail campaign and delivered 100 new customers to the bank. She is rewarded for achieving the goals of the marketing group.

The collections manager, who is rewarded on the basis of the ability to minimize delinquencies and uncollectibles, has been unable to control the recent rise in delinquencies and is therefore considered a poor performer.

What has happened? The marketing manager had achieved her goals by targeting the wrong customers, namely those with higher probabilities of default.

This is the reason it's important to use customer value, rather than customer attraction or retention, as a key performance metric, because although the number of customers at the bank has increased, the value captured from these customers is low-margin or even negative.

This simple example makes it clear that a customer-based management enterprise, which manages using customer value, can realize higher growth and profits than a bank organized in product or functional "silos."

This is the real source of competitive advantage. Mr. Miller is a principal and Mr. Kuckuk a vice president in the customer-based management practice of American Management Systems Inc., Fairfax, Va.

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