1. 1
PROJECT TITLE
“Customer retention Strategy for ICICI Security”
Report Submitted in practical fulfillment of the requirement
For the Degree of
MBA
In
Marketing & Finance
Under the supervision Submitted By
Of Nilesh K. Sen
Prof. Pallavi Mittal MBA 4th
Semester

2. 2
DECLARATION BY CANDIDATE
I declare that this dissertation work on “Customer retention Strategy for ICICI
Security”
Is a bonafide work done and submitted by me and the research work was carried
out under the guidance of Prof. Pallavi Mittal.
I further declare that this Project Report does not form of any other project
reports or dissertations on the basis of which a degree was awarded or conferred
on an earlier occasion on me or any other candidate.
Place: Ahmedabad
Date :

3. 3
ACKNOWLEDGEMENT
I express my deep sense of gratitude to our beloved Dean Sir, Mr. Manish
Dholakiya for giving me a wonderful opportunity for doing Master of Business
Administration in this esteemed institution.
I consider it a great privilege to be under the guidance of “Mrs. Pallavi
Mittal”,Professor of Marketing Amity Global Business School,Amity University. The
contribution and significant role played by her help me in preparation and
submission of project report in time.
I gratefully acknowledge the team of staff members in M.B.A department
for helping me in all aspects and giving their valuable ideas for making my project
efficient and effective. Last but not the least I would like to thank my parents and
friends for their valuable support and encouragement through out the course of the
project.

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Table of Content
Sr. No. Topic Page No.
1. Introduction
1.1 About Customer retention
1.2 Overview of the Financial Market
1.3 Financial services in India
1.3.1 Financial Market
1.4 About ICICI Securities
1.4.1 Complete description of ICICI Securities as
a Distribution House
1.5 Analysis of Indian Financial Sector
1.6 Importance of the study
2. Theoritical Background & Review
Literature
3. Objectives of the study
4. Theoretical Framework
5. Research Design
5.1 Data collection methods
5.2 Sampling
5.3 Primary Data
5.4 Hypothesis Test
6. Data Analysis & Interpretation
7. Limitation & Scope of further Studies

5. 5
8. Conclusion
Biblography

6. 6
Abstract
Since the last decade, many companies perceive the retention of the customer as a
central topic in their management and marketing decisions. A firm can increase profits
by 25-95 percent if it could improve its customer retention rates by 5 percent. A retained
customer will be loyal due to the attachment and commitment to the organization. This
customer will, then, recommend others to purchase and repurchase the companies‘
products and services. Review on past literatures indicates that studies on customer
retention concentrated more on the manufacturing sector over the Finance & retailing
despite its growing importance as a major service subsector. This study explores
literatures pertaining to the factors that influence customer retention and its measures at
great length. Factors such as top management support, switching costs, perceived service
quality, customer satisfaction, interaction with customers, pricing, membership and
employees are found to significantly influence the customer retention rate while
customer retention rate can be measured by evaluating their characteristics in terms of
repeat purchases, willingness in spreading positive word of mouth (WOM) about the
company to others, insensitiveness towards the changes in pricing of products and
attitude of praising (not complaining). Based on the thorough literatures done, a
theoretical framework is proposed and some possible recommendations are put forward
for future researches.

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Chapter 1 INTRODUCTION

8. 8
1. INTRODUCTION
1.1 About Customer Retention
Before discussing anything, it is necessary to understand the Customer retention.
So What is Customer Retention? Hence,
“Customer Retention is the activity that a selling organization undertakes in order to
reduce customer defections.”
Successful customer retention starts with the first contact an organization has
with a customer and continues throughout the entire lifetime of a relationship. A
company‘s ability to attract and retain new customers, is not only related to its product
or services, but strongly related to the way it services its existing customers and the
reputation it creates within and across the marketplace. Customer retention has a direct
impact on profitability.
Since the last decade, many companies perceive the retention of the customer as
a central topic in their management and marketing decisions (Van den Poel &
Larivie`re, 2005). Most of the studies about customer retention argue that retaining
customers improves profitability, importantly by reducing the cost incurred in acquiring
new customers (Reichheld and Kenny, 1990; Schmittlein, 1995; Reichheld, 1996).
Firms that constantly attract new customers will not be able to witness increases in
profits if they are unable to retain them but at the same juncture, it is not rewarding to
maintain every customer, since it is very costly (Anderson and Mittal 2000 IN Woo
and Fock 2004). This is supported with findings of (Reichheld and Schefter, 2000)
which discovered that a firm can increase profits by 25-95 percent if it could improve its
customer retention rates by 5 percent. A small shift in customer retention rates can make
a large difference for the firm‘s profit which will accelerate over time (Reichheld, 1993;
Wright & Sparks, 1999; Zeithaml et al., 1996). Inherently, a retained customer will be
loyal due to the attachment and commitment to the organization. This customer will,
then, recommend others to purchase and repurchase the companies‘ product and services
(Diller, 1996; Diller and Muellner, 1998; Gremler and Brown, 1998; Homburg et
al. 1999; Oliver, 1999).Retailing is identified as one of the top contributors for service
sector worldwide (Currah and Wrigley, 2004; Kaliappan et al., 2008) which
constantly evolves over time. It is believed that customer retention strategy will be a

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vital management tool for retailers to survive and grow in the very competitive sector as
retailers encounter fierce competition both from local and foreign retailers alike and as
well as from non-traditional retailers such as online retailers (Levy,2009). Review on
past literatures indicates that studies on customer retention concentrated more on the
manufacturing sector over the service (retailing) sector (Anderson and Sullivan,1993)
despite its growing importance to the development of nations (Hernandez, 2004;
Ganz,2005).
1.2 Overview of Financial Market
In economics, a financial market is a mechanism that allows people to easily buy
& sell (trade) financial securities (such as stocks & bonds), commodities (such as
precious metals or agricultural goods).
Money we earn is partly spent and rest saved for meeting future expenses.
Instead of keeping the savings idle we like to use savings in order to get return on it in
the future. This is called ―Investment”.
Hence a question arises in our mind that Why people Invest & what are the
different avenues where people can invest? Following is an answer to the question.
Why Invest?
Earn Return on idle resources
Generate sum of money for specified goal in life
Make provision for uncertain future
To meet the cost of inflation
Types of Financial Market
Capital market
Commodity Market
Money Market
Derivatives Market
Insurance Market
Foreign Exchange Market

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Options for Retail Investor
Equity
Debt
Mutual Funds
Fixed Deposits with Banks
Post office schemes
Gold
Real Estate
Insurance
1.3 Financial Services in India
References: Media Reports, Press Releases, RBI Documents
Comprising primary markets, foreign direct investments (FDI), alternate
investment options, banking, insurance and asset management segment, the Indian
financial services market happens to be one of the oldest and robust across the globe. It
is definitely fast growing and best among other emerging economies.
India is highly preferred as an investment destination as the savings rate is high (25 per
cent plus) and financial products' penetration is low. Hence, it is a vast market for
mutual funds, portfolio and wealth management services, insurance and a plethora of
other financial products. Moreover, with a major pie of savings going into physical
assets such as gold and real estate, the Indian Government is focusing on big policy
initiatives to attract savers towards financial markets through incentives and tax savings.
For instance, the recent relaxation in expense ratios for mutual funds and the prospects
of higher foreign investment limits in insurance and pension sectors are certain steps that
could unlock huge potential in these sectors and can emerge as a lucrative market for
foreign investors.

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Insurance Sector
Life insurance industry, comprising over 20 companies, including public sector
Life Insurance Corporation (LIC) of India, collected total premium of Rs 84,
501.75 crore (US$ 15.48 billion) during the April-February period of 2012-13
fiscal. Private insurers together raked-in Rs 23, 796.29 crore (US$ 4.36 billion)
in these 11 months
On the other hand, Indian general insurers' premium collection rose 19.36 per
cent to Rs 561.1 billion (US$ 10.28 billion) in the April-January 2012-13,
Insurance Regulatory and Development Authority (IRDA) said in a statement.
Of the total, premium collection of the four state-run general insurers rose 16.78
per cent to Rs 319.18 billion (US$ 5.85 billion) in the 10 months while that of 23
private sector non-life insurers increased 22.93 per cent to Rs 241.81 billion
(US$ 4.43 billion) to Jan 31, 2013.The four state-run general insurers are New
India Assurance Co, National Insurance Co Ltd, Oriental Insurance Co Ltd and
United India Insurance Co Ltd
Banking Services
According to the Reserve Bank of India (RBI)'s 'Quarterly Statistics on Deposits
and Credit of Scheduled Commercial Banks', March 2012, Nationalised Banks
accounted for 53.0 per cent of the aggregate deposits, while the State Bank of India
(SBI) and its Associates accounted for 21.8 per cent. The share of New Private
Sector Banks, Old Private Sector Banks, Foreign Banks, and Regional Rural Banks
in aggregate deposits was 13.0 per cent, 4.8 per cent, 4.4 per cent and 3.0%
respectively.
Nationalised Banks accounted for the highest share of 52.0 per cent in gross
bank credit followed by State Bank of India and its Associates (22.5 per cent) and
New Private Sector Banks (13.5 per cent). Foreign Banks, Old Private Sector Banks
and Regional Rural Banks had shares of around 4.8 per cent, 4.8 per cent and 2.4 per
cent, respectively

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India's foreign exchange (forex) reserves stood at US$ 292.64 billion for the
week ended March 29, 2013, according to data released by the central bank. The
value of foreign currency assets (FCA) - the biggest component of the forex
reserves - stood at US$ 259.72 billion, according to the weekly statistical
supplement released by the RBI
Mutual Funds Industry in India
India's asset management companies (AMCs) have witnessed a growth of 19.5 per cent
in their average assets under management (AUM) in FY13, wherein they stood at Rs
8.16 lakh crore (US$ 149.53 billion), as on March 31, 2013, according to the latest
statistics available from industry body Association of Mutual Funds in India (AMFI)
Private Equity, Mergers & Acquisitions in India
Favorable demographics and growth opportunities keep India an 'attractive'
destination for merger and acquisition (M&A) activities across diverse sectors including
consumer goods and pharmaceuticals, according to global consultancy Ernst & Young.
The value of M&A deals in India stood at US$ 4.5 billion in the March 2013
quarter, according to Thomson Reuters' India M&A First Quarter 2013 Review.
Meanwhile, there were 90 private equity (PE) deals valuing US$ 1.04 billion during
January-March 2013 quarter, reveal data from Four-S Services.
Foreign Institutional Investors (FIIs) in India
FIIs have infused US$ 26 billion in the Indian stock market during the fiscal
ended March 31, 2013, according to latest data available with the market
regulator Securities and Exchange Board of India (SEBI). The amount is the
highest ever since overseas entities started investing in the country
The number of registered FIIs in India stood at 1, 757 in FY 2012-13 while the
number of FII sub-accounts rose to 6, 335, from 6, 322 at the end of 2011-12.

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Financial Services in India: Recent Developments
Canada's largest insurer Manulife Financial is contemplating to enter Indian
insurance sector. The company is actively doing a market research to find a
viable Business model to set up shop here.Insurance sector is home to many
other foreign players like Allianz, Prudential, Standard Life, Aviva, Aegon and
Nippon Life, which are present in the market through joint ventures (JVs)with
their respective Indian partners.
The US$ 4 billion-media conglomerate - Essel Group has forayed into the Indian
financial services sector. It has set up two businesses, private equity (PE) and
investment banking, under the names of Essel Finance Managers and
CAPSTAR, respectively, under the holding company, Essel Financial Services.
CAPSTAR, to focus on deals in infrastructure, real estate and financial services,
has set up an office each in Mumbai, Noida, Bangalore and Delhi and will open
one each in Chennai and Pune. The firm will focus on mergers and acquisitions
(M&A), pre-Initial Public Offering (IPO) deals, qualified institutional
placements (QIPs) and portfolio management services
Financial Services: Government Initiatives
In its latest attempt to attract international investors, the Government has
simplified the process for FIIs investing in Government and corporate bonds. In
the newly devised streamlined procedure, the Government, SEBI and the RBI
have decided to remove sub-limits for FIIs within the overall cap for bonds.
From now on, there will only be two ceilings - a US$ 25 billion limit for
investment in government securities (G-secs) that has been formed by merging
G-secs (old) and G-secs (long-term). In addition, there will be a US$ 51 billion
sub-limit for corporate bonds that will include the existing one for FIIs (US$ 25
billion), qualified foreign investors (QFIs) (US$ 1 billion) and US$ 25 billion for
FIIs in long term infrastructure bonds
Meanwhile, Mr P Chidambaram, the Finance Minister, has expressed confidence
that the Government would soon introduce amendments to the Insurance Bill.

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The Bill seeks to raise foreign investment cap in the sector from 26 per cent to 49
per cent, which is a much-awaited move in the capital-intensive industry
Road Ahead
Market analysts believe that Indian stocks may touch new highs in 2013, as the
market sentiments in the US and Europe are still dismal. Higher-than-expected cuts in
policy rates by the RBI and surprises in companies' earnings could potentially drive
more FIIs in India.
Mr. P Chidambaram has also indicated that there is a rising demand for opening
bank branches in Indian towns and villages. More bank branches mean more
mobilisations of savings and higher investments in the economy. On an average, about
6, 000 branches were being opened every year in the last 2-3 years and there's a plan to
open more of them in 2013-14.
1.3.1 Financial Market
Before we understand the Full Term ―Financial Market‖. Let‘s understand first
―What is Market‖?
―Market is the means through which buyers and sellers are brought
together to aid in the transfer of goods and/or services.‖
Note:
A market does not necessarily have a physical location.
A market does not necessarily own the goods and service involved.
A market can deal in any variety of goods and services.
So, what is Financial Market?‖
―A financial market is an environment where various types of financial
instruments are bought and sold, such as equities, currencies and debt securities,
according to a set of rules.‖
Various derivatives of these base entities, for example futures, swaps and
options, and other financial innovations are also traded.

15. 15
Financial markets help to transfer funds from people who do not need it to
People who do need it.
For lenders, the markets provide a conduit for their excess liquidity and a
Way to store wealth.
For borrowers, the markets furnish credit to finance their consumption and
Investment.

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1.4. About ICICI Securities
ICICI Securities Ltd is an integrated securities firm offering a wide range of
services including investment banking, institutional broking, retail broking, private
wealth management, and financial product distribution.
ICICI Securities sees its role as 'Creating Informed Access to the Wealth of
the Nation' for its diversified set of client that include corporate, financial institutions,
high net-worth individuals and retail investors.
The platform not only offers convenient ways to invest in Equity, Derivatives,
Currency Futures, Mutual Funds but also other services Fixed Deposits, Loans, Tax
Services, New Pension Systems and Insurance are available.
1.4.1 Complete description of ICICI Securities as a Distribution
House
Retail Equity
ICICI Securities empowers over 2 million Indians to seamlessly access
the capital market with ICICIdirect.com, an award winning and pioneering online
broking platform. The platform not only offers convenient ways to invest in Equity,

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Derivatives, Currency Futures, Mutual Funds but also other services Fixed Deposits,
Loans, Tax Services, New Pension Systems and Insurance are available.
ICICIdirect.com offers a convenient and easy to use platform to invest in equity and
various other financial products using its unique 3-in-1 account which integrates
customers saving, trading and demat accounts.
Apart from convenience, ICICIdirect.com also offers access to comprehensive
research information, stock picks and mutual fund recommendations among other
offerings. Tailored services and trading strategies are available to different types of
customers; long term investors, day traders, high-volume traders and derivatives traders
to name some.
Distribution Channel
ICICI Securities has set-up neighborhood financial stores which offer a variety
of financial products and services under one roof. It is a one-stop shop that facilitates
existing and potential customers to speak to our team and understand their financial
plans and goals. ICICI Securities has 250 stores across 66 cities in India.
Another unique concept called the ICICIdirect Money Kitchen was launched in
late 2009. An extension of the superstore model, the money kitchen is an innovative
financial store where visitors can create their profiles to not only analyze their
investment strategy by using various financial tools but also monitor it from time-to-
time.
To enable our customers to maximize their returns and plan for their future,
ICICIdirect has also started financial planning services at these stores. Customized
financial plans can be created for our customers by dedicated Relationship Managers
who will understand the customer's requirements and future goals.
Based on this information, the Relationship Manager works on creating a
comprehensive and easy-to-read financial plan. This enables ICICIdirect to move from
just a transactional based relationship to a meaningful and value-added long-term

18. 18
relationship with our customers. ICICIdirect‘s services and offerings evolve according
to the customer's ever changing requirements and goals.
Customers can walk-in to the financial superstores for products like ICICIdirect
3-in-1 online trading account, equities, mutual funds, IPO, Life and General insurance,
Fixed Deposits and many other financial products. The stores also conduct periodic
training sessions on markets and demo sessions of the trading website.
Research
ICICI Securities understands the need for insightful research to make the right
investment decision. An independent equity research team provides strong and timely
updates to ensure that customer can avail of market opportunities.
The research team focuses on both large cap as well as small and mid-cap. Large
cap companies provide an overview of industry environments, while small and mid-cap
companies are chosen 'bottom-up', providing a unique perspective to a generally under-
researched end of the market. The focus is on identifying companies, which we believe
are likely to generate wealth for investors on a sustained basis through in-depth
fundamental research.
Wealth Management
The Wealth Management Group is a team of specialists who offer specific
advisory services to meet both personal and business wealth requirements of HNIs.
The team creates customized strategies to meet Customer's investment goals of
wealth accumulation, wealth preservation and liquidity. In addition to mutual funds,
fixed deposits and other traditional products, we also offer alternate investment avenues
of Private Equity, Structured / Customized products for investors with specific views on
the markets and Portfolio Protection Strategies for large investors.

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The attempt is to bring world class investment products to our customers through
over 15 centers of ICICIdirect.
ICICI Securities as Institutional
Equity Capital Market
ICICI Securities has been at the forefront of capital markets advisory for several
decades and has also been involved in most of the major public equity issuances in
recent times. The company was among the leading underwriters of Indian equity and
equity linked offerings with unparalleled execution capabilities
The firm's expertise include Initial Public Offerings (IPOs), Further Public
Offerings (FPOs), Rights Offerings, Convertible Offerings, Qualified Institutional
Placement (QIP), Non-convertible Debentures, Buyback, Delisting, Open Offers and
international offerings, for both, unlisted and listed entities.
ICICI Securities has successfully managed public issues of companies which
were the first in their sector to tap the market - media both print and television, first
Govt. of India divestment IPO, first pure-play Internet Company in India etc.
ICICI Securities was also involved in various pioneering issues in the Indian
capital markets - the first issue using the new alternate book-building (French Auction)
method (NTPC), the first issue of shares with Differential Voting Rights (Tata Motors),
the first public issue of Non-Convertible Debentures (Tata Capital), the first delisting
using the reverse book-building mechanism (Hewlett-Packard), etc.
Institutional Equities
ICICI Securities assists global institutional investors to make the right decisions
through insightful research coverage and a client focused Sales and Dealing team.
A dedicated and specialized research team ensures flow of well thought-out and well-
researched stock ideas and portfolio strategies.

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The Sales and Dealing team has demonstrated strong sales and execution
capabilities of actionable ideas to clients which have resulted in good relationships
across geographies.
ICICI Securities enjoys the first mover and market leader advantage in the
derivatives segment and offers the entire spectrum, from set-up to trading strategy.
The equity group leverages research and distribution reach to domestic and
foreign institutional investors in case of public offerings. The research team tracks over
15 key sectors of the Indian economy and publishes in-depth research reports every year.
The equity group acts as a bridge for institutional investors and corporate clients with
the markets.
ICICI Securities is the first domestic Investment Bank to organize theme based
conferences in New York, Shanghai, Singapore & Hong Kong.
1.5 Analysis of Indian Financial Sector
Analysis of Indian Financial Sector reveals that it is at present going through a
phase of stable growth rate which is experiencing an upward swing. The rise can be
maintained over a long period by keeping the inflation down.
The financial sector in India has experienced a growth rate of 8.5% per annum.
The rise in the growth rate suggests the growth of the economy. The financial policies
and the monetary policies are able to sustain a stable growth rate. The reforms pertaining
to the monetary policies and the macroeconomic policies over the last few years have
influenced the Indian economy to the core. The major step towards opening up of the
financial market further was the nullification of the regulations restricting the growth in
the financial sector. To maintain such a growth for a long term the inflation has to come
down further. The analysis of Indian financial sector shows the growth of the sector was
the result of the individual development of the divisions under the sector.

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A casual observer might infer from India's flourishing stock markets, fast-
growing mutual funds, and capable private banks that the financial system is one of the
country's strengths. But closer inspection reveals that while policy makers deserve credit
for liberating these high-performing parts of the system, tight government control over
almost every other part is undermining India's overall economic performance. To sustain
rapid GDP growth and spread its benefits more broadly, the country needs a financial
system that is comprehensively market oriented and efficient.
The financial system's shortcomings fall largely into three areas. First, formal
financial institutions attract only half of India's household savings and none of the $200
billion its people keep tied up in gold. Second, these financial institutions allocate more
than half of the capital they do attract to the economy's least productive areas: state-
owned enterprises (SOEs), agriculture, and the unorganized sector (made up mostly of
tiny businesses). The more productive corporations in India's dynamic private sector
receive only 43 percent of all commercial credit. Third, since the financial system is
inefficient in both of its main tasksÁ»mobilizing savings and allocating capitalÁ»Indian
borrowers pay more for capital and depositors receive less than they do in comparable
economies.
These failings place a heavy burden on India's economy; fixing them would give
it an immense boost. Research by the McKinsey Global Institute (MGI) indicates that an
integrated program of reforms for the financial system could add $47 billion to India's
GDP each year. This increase would in turn raise India's real GDP growth rate to 9.4
percent a year, from the current three-year average of roughly 7 percent. India's growth
would be roughly on par with China's and just shy of the government's 10 percent target.
Household incomes would be 30 percent above current projections by 2014, lifting
millions more people than expected out of poverty.

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1.6 Importance of the Study
This study is beneficial for the ICICI Securities.
It helps to understand them about their customer‘s current thinking about the
company.
It helps the ICICI Securities to understand their Customer Retention Strategy.
It helps ICICI Securities to reduce their Customer defection.

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Chapter 2
THEORETICAL BACKGROUND
&
REVIEW LITERATURE

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2.1 Customer Satisfaction and Links to Customer
Profitability:
An Empirical Examination of the Association between
Attitudes and Behavior
An increased focus on profitability at the customer level is a reflection of a
movement within the marketing discipline towards a less aggregate view of markets. In
other words, the individual customer - rather than segments of customers – is
increasingly stressed as the unit of analysis. This movement has given birth to labels
such as ‗‗one-to-one marketing‘‘ and ‗‗micro marketing‘‘. Seen from this perspective,
customer profitability is emerging as an important dimension in which each (unique)
customer can be described. A focus on customer-level profitability can also be
conceived of as a reflection of marketing‘s changing role within the firm (cf. Webster
1992). An important aspect of the new role is that ‗‗marketing is too important to be left
to the marketing department‘‘. Consequently, at least in marketing literature, other
Departments are encouraged to deal with marketing issues. This can be seen particularly
in terms of cost control, in the sense that marketing performance measures are being
introduced in cost accounting literature and practice. For example, activity-based costing
and balanced scorecard techniques often include dimensions which are highly relevant
to marketing (cf. Cooper & Kaplan 1991, Kaplan & Norton 1992). In this context, it
is worth noting that marketing has traditionally lagged behind other functional areas of
business with respect to the implementation of cost control systems (Dunne & Wolk
1977, Morgan & Morgan 1980). Another factor behind the interest in customer
profitability (and its links to behavior and attitudes) is the development of information
technology, e.g. in terms of ‗‗data warehouses‘‘, which allows for a detailed analysis of
each customer.
Customer satisfaction
Customer satisfaction is a mental state which results from the customer‘s
comparison of a) expectations prior to a purchase with b) performance perceptions after
a purchase (cf.Oliver 1993, Oliver 1996, Westbrook 1987, Westbrook & Oliver

25. 25
1991). A customer may make such comparisons for each part of an offer (‗‗domain-
specific satisfaction‘‘) or for the offer in total (‗‗global satisfaction‘‘). In the satisfaction
literature, customer satisfaction usually refers to the latter type of outcome. Moreover,
this mental state, which we view as a cognitive judgment, is conceived of as falling
somewhere on a bipolar continuum bounded at the lower end by a low level of
satisfaction expectations exceed performance perceptions) and at the higher end by a
high level of satisfaction (performance perceptions exceed expectations).
Customer profitability
Customer profitability is a customer-level variable which refers to the revenues
less the costs which one particular customer generates over a given period of time. As
such, this variable refers to the supplier‘s value of having one particular customer, not
the customer‘s value of having a particular supplier. Customer profitability appears in
two temporal forms in marketing-related literature.
First, it appears as a matter of historical record. In this sense, a customer
profitability analysis is similar to the firm‘s profit and loss statement. The main
difference is that a customer profitability analysis refers to one particular customer,
whereas a profit and loss statement refers to all customers. A history-oriented customer
profitability analysis can be made at several levels. A Common point of departure is to
calculate the contribution margin (gross contribution margin), i.e. sales revenue less all
product-related expenses for all products sold to an individual customer during one
particular period of time (cf. Wang & Splegel 1994). Then, depending on the
availability of data, sales, general and administrative expenses traceable to the individual
customer are subtracted (Cooper & Kaplan 1991, Howell & Soucy 1990). The result of
this calculation is the operating profit generated by the customer. An extension of this
line of thinking is the computation of ‗‗customer return on assets‘‘, i.e. customer
profitability divided by e.g. the sum of accounts receivable and inventory (Rust et al
1996).
Second, customer profitability is also referred to in a future sense in the
literature. In this case, it often takes the form of the output from a net present value

26. 26
analysis. The output is sometimes referred to as the ‗‗lifetime value‘‘ of a customer (cf.
Heskett et al 1997, Peppers & Rogers 1993, Petrison et al 1993, Rust et al 1996).
2.2 Achieving Customer Knowledge Competencies:
Managing Customer Relationship Management Programs
Strategically
Customer Relationship Management (CRM) has become the latest buzzword in
the academic and managerial press. While CRM has been defined in numerous ways
(Morgan and Hunt 1994; Berry and Parasuraman 1993; Gronroos 1995), elements
common to all definitions include leveraging technology to engage individual customers
in a meaningful dialogue so that firms can customize their products and services to
attract, develop and retain customers. CRM initiatives have grown rapidly over the past
few years due to the great strides made in information technology. Modern CRM
software packages include front-office applications that access customer and product
information as well as back-end systems including financials, inventory and ERP
(Enterprise Resource Planning).
Various researchers have extolled the benefits of CRM in enabling more
effective marketing (Grant and Schlesinger 1995) by creating intelligent opportunities
for cross selling (Hill 1998) and faster new product introductions (Ruediger, Grant-
Thompson, Harrington and Singer 1997). But implementing a new technology alone,
to customize products and services, does not guaranteed such results.
In the academic literature, a customer knowledge process has been demonstrated
to enhance a firm‘s competitive advantage in new products (Cooper 1992; 1998) by
enabling firms to explore profitable innovation opportunities created by emerging
customer demand and reducing potential risks of misfitting customer needs. What

27. 27
remains unexplored is whether customer knowledge processes in the context of
customer relationship management are helping firms achieve similar superior results.
Customer Knowledge Competence
Firm competences are generally thought of as ―complex bundles of skills and
collective learning, exercised through organizational processes‖ (Day 1994, p.38). The
importance to firms of harnessing knowledge-based competences which yield a
competitive advantage is well established in both the marketing (Day 1994) and strategy
(Pralahad and Hamel 1990) literature. While the importance to a firm‘s competitive
advantage of the organizational processes that generate and integrate market knowledge
has been acknowledged conceptually (Glazer 1991; Day 1994; Hunt and Morgan
1995) with the notable exception of Li and Calantone (1998).
Li and Calantone (1998) distinguish between market knowledge and market
knowledge competence in the following way. Market knowledge is defined as
―organized and structured information about the market as the result of systematic
processing‖ whereas market knowledge competence is ―the processes that generate and
integrate market knowledge‖ (p.14). In this research, a similar distinction is adopted
between customer knowledge (or systematic information) and a customer knowledge
competence. Unlike customer knowledge which is readily available through existing
database software packages, a customer knowledge competence is inimitable because
processes of generating customer knowledge are embedded in organizational cognitive
activities not observed readily from outside (Day 1994; Prahalad and Hamel 1990);
and immobile because these processes are created within the firm and cannot be
purchased in the market (Day 1994).
Managing CRM programs for Customer Knowledge Competence
Customer Knowledge Process : Consistent with organizational learning theory
(Huber 1991; Sinkula 1994) a customer knowledge process is conceptualized to consist
of three sequential aspects: customer information acquisition, interpretation and
integration. In practice, information about customer needs can be easily acquired

28. 28
through the variety of customer relationship management (CRM) software packages
currently available on the market.
Employee Evaluation and Reward Systems: It is increasingly being
acknowledged that the challenge of realigning employee behavior closely parallels the
challenge of realigning customer behavior. (Grant and Schlesinger 1995). Engaging in
dialogue with a diverse and evolving customer base in multiple channels places a high
premium on organizational flexibility. But the creation of a flexible organization
imposes psychological and emotional trauma on the organization‘s employees
(Prahalad and Ramaswamy 2000). The importance of incentive and reward systems to
help employees meet these new challenges has recently been recognized. Gordon
(1998 p.36) outlines four levels of customer learning for employees that need to be
explicitly considered in reward and recognition programs: individual learning; team
learning within the enterprise; team learning between the company and other firms with
which it does business such as suppliers and distribution channel intermediaries and
team learning with customers.
2.3 Customer retention is not enough
Companies spend millions trying to understand and influence customers—to
hold on to them and to encourage them to spend more. But to increase the customers‘
loyalty, companies must do more than track today‘s typical metrics: satisfaction and
defection.
Our recent two-year study of the attitudes of 1,200 households about companies
in 16 industries as diverse as airlines, banking, and consumer products shows that this
opportunity is surprisingly large. Improving the management of migration as a whole by
focusing not only on defections but also on smaller changes in customer spending can
have as much as ten times more value than preventing defections alone. Companies
taking the approach we recommend have cut downward migration and defection by as
much as 30 percent.
For example, 5 percent of checking-account customers defected annually, taking
with them 10 percent of the bank‘s checking accounts and 3 percent of its total balances.

29. 29
But every year, the 35 percent of customers who reduced their balances significantly
cost the bank 24 percent of its total balances, while the 35 percent who increased their
balances raised its total balances by 25 percent. This effect showed up in all 16
industries we studied and was dominant in two-thirds of them.
In industries like retailing and credit cards, whose customers generally deal with
more than one company, managing migration is vital. But doing so also matters in
industries like insurance and telecom services, where a customer might seem to have a
single primary provider. One local phone company, for example, found that more than
90 percent of its loyalty opportunities came from reaching out to customers dropping
features such as second lines and call waiting.
Understanding customers
To influence what customers spend, a company must generally dig deeper than
merely finding out whether they like the product or service on offer. A broad measure of
satisfaction can tell a company how likely customers are to defect; mobile-phone
customers, for instance, continually switch providers because of customer service

30. 30
problems. But satisfaction alone doesn‘t tell a company what makes customers loyal,
the product or the difficulty of finding a replacement, for example. Nor does gauging
satisfaction levels tell a company how susceptible its customers are to changing their
spending patterns—variations that more often come about as a result of changes in their
lives, in the company‘s offer, or in its competitors‘ offers. Understanding the other
drivers of loyalty, our research showed, is crucial to having an influence on migration.
By learning to understand why customers exhibit different degrees of loyalty,
and combining that knowledge with data on current spending patterns, companies can
develop loyalty profiles that define and quantify six customer segments (Exhibit 2).

31. 31
For industries that don‘t have many competitors capable of meeting the basic
needs of their customers, active dissatisfaction plays the strongest role in downward
migration. As the number of competitors providing a minimum level of satisfaction
increases, other factors tend to assume a larger role; customers are more likely to
compare the merits of various voice mail options, for instance, once phones can be
counted on to work reliably.
Three basic customer attitudes—emotive, inertial, and deliberative—underlie
loyalty profiles. Emotive customers are the most loyal. Feeling strongly that their current
purchases are right for them and that their chosen product is the best, they rarely reassess
purchasing decisions.
Our research shows that emotive customers generally spend more than those who
deliberate over purchases and migrate at a much lower rate. Emotive people are thus,
rightly, the marketers‘ Holy Grail, and companies will find value in increasing the
proportion of their customers in this group.
Inertial customers, like emotive ones, rarely reassess their purchases, but their
inaction results from high switching costs or a lack of involvement with products.
Utilities and life insurers are good examples of industries whose customers tend to be
inertial. Although these customers aren‘t prone to spend more or less than they currently
do, influencing them offers about as much opportunity as influencing emotive
customers, largely by making them less likely to migrate downwardly in response to
shocks such as price hikes, isolated cases of bad service, and lifestyle changes.
Deliberators—both those who maintain their spending and those who spend
less—are on average the largest group, representing 40 percent of all customers across
industries. The rewards from influencing deliberators can be twice as high as the
rewards from influencing emotive and inertial customers. Deliberators frequently
reassess their purchases by criteria such as a product‘s price and performance and the
ease of doing business with a company.

32. 32
Profiling customers
Our research also showed that the proportion of people in each loyalty segment
differs by industry (Exhibit 3); we found, for example, that far fewer customers are
emotionally attached to their grocery stores than to their long-distance providers. For
both mobile-phone providers and Internet service providers, however, deliberators
predominate, so even among different kinds of telecom companies, the proportions in
each segment can vary a lot.
This fact implies that the reasons for migration differ greatly among industries.
Deliberative customers, for example, who change their spending patterns because of

33. 33
factors like convenience, account for more than 70 percent of reduced spending by
purchasers of casual apparel but only one-third of reduced spending by mobile-phone
customers. These differences show why reward programs appealing to deliberators, for
instance, might be highly successful in one industry but not another.
Using loyalty profiles
Armed with its loyalty profile, a company gains new insights. First, the profile
reinforces the point that building loyalty isn‘t just, as the traditional view would have it,
about preventing defections and encouraging extra spending; it is about understanding
and managing all six loyalty segments. Second, the profile highlights the different tactics
required to manage each of the segments and a company‘s need to carry out a range of
actions to reach all of them; a single act rarely increases the loyalty of all customers.
Third, when combined with standard customer-value analysis, the profile helps a
company base its loyalty-building priorities on the size of each opportunity.
2.4 Customer retention in retail financial services
The adherents of customer retention argue that retaining customers improves
profitability, mainly by reducing the costs incurred in acquiring new customers
(Reichheld and Kenny, 1990; Reichheld, 1996; Schmittlein, 1995). The prime
objective of customer retention (CR) is to achieve ―zero defections‖ of profitable
customers (Reichheld, 1996), so that customer ―churn‖ is minimised.In addition, CR
incorporates the notion of offering these retained customers goods or services that are
thought likely to meet their needs (e.g. Reichheld and Kenny, 1990).
a) Relational exchange
The marketing literature has, over the last few years, been extensively concerned
with relationships, in which a core theme has been the shift in marketing practice and
theory from transactional to relational exchange (e.g. Buttle, 1996; Brodie et al., 1997;
Gummesson, 1997; Gronroos, 2000).

34. 34
Relationship marketing (RM) is a process (Gronroos, 2000) that consists of
having long-term relationships with customers, usually on a one-to-one basis and forms
the strategy that underpins relational exchanges.
Interpretations of RM vary (Brodie et al., 1997), but common themes are that
relationships are based on power being distributed equally between partners (Hogg et
al., 1993; Rowe and Barnes, 1998) and that both the buyer and the seller are active in a
rich, multi-dimensional exchange (Easton and Araujo, 1994).
b) Retailing financial services
One of the reasons behind mergers and conversions has been to gain the capacity to
cross-sell financial products to selected customers (Gardener et al., 1999; Harrison,
2000).
Customers, in spite of receiving poor service, have been remarkably reluctant to switch
providers, particularly for their current account, but they are now increasingly prepared
to switch providers if better value is available elsewhere.
c) Retaining customers
Support for retaining customers in the marketing literature (e.g. Ahmad and Buttle,
2002; Ennew and Binks, 1996; Jones and Sasser, 1995; Reichheld, 1996) is
extensive. The benefits of retaining customers to the organisation are higher margins and
faster growth, derived from the notion that the longer a customer stays with an
organisation, generally the higher the profit (Reichheld and Kenny, 1990). More
recently, qualitative investigation into CR has identified themes such as rewards and
recognition and cohesion in UK bank branches (Clark, 2002). Case study research by
Ahmad and Buttle (2001, 2002) has pointed to the contextual nature of customer
retention and emphasised the need for research into typologies of retention.
d) Developing a framework of CR
Managers are responsible for establishing priorities and making strategic choices
(Cravens et al., 1996),making it clear that the organisation‘s customer base is a key
strategic asset (Schmittlein, 1995). They should provide clear direction so that the

35. 35
causes of customer defections are uncovered and addressed (Reichheld, 1996;
Reichheld and Kenny, 1990). Information systems provide essential support for
customer retention( Lewington et al., 1996), by keeping accurate details on purchase
records, for assessing the value of customers to the organisation and in picking up likely
defectors (Schmittlein, 1995).
If staff are given more power, greater access to information and adequate
knowledge (Bowen and Lawler, 1995), they are in a better position to recover
situations or delight customers.
2.5 Antecedents and Consequences of Service Quality in
Online Banking: An Application of the SERVQUAL
Instrument
During the past decade, the online service industry has witnessed tremendous
growth, much of it spurred by the Internet revolution (Keaveney and Parthasarathy,
2001). Especially, the potential of the Web as a commercial medium is widely
recognized and the growth in online service industries such as online banking has
increased rapidly. In addition to Internet companies, traditional organizations are
investing a huge amount of money and effort in information systems to provide online
services through the Web. The underlying assumption of their investment is that,
because online services provide their customers with convenience, interactivity,
relatively low cost, and a high degree of customization/ personalization, they will
enhance customer satisfaction and retention more effectively than offline-based services
(Khalifa & Liu, 2001). To justify their investment in online services, many
organizations are trying to measure the quality of their online services and investigate
the relationships between service quality and customer satisfaction. However, a formal
methodology for measuring online service quality is not well developed yet.
Traditionally, many studies of service marketing have tried to define service
quality and develop instruments to measure it. Since Parasuraman et al.(1988)
introduced a service quality instrument, called SERVQUAL, many studies have used
SERVQUAL to measure service quality in various domains, ranging from financial
services (Lin, 1999), health services (Dean, 1999), travel agent services (Kaynama,

36. 36
2000), and retailing services (Mehta, 2000), to restaurants (Lee and Hing 1995).
However, since SERVQUAL was originally developed to measure service quality
delivered through regular offline channels, its use in the Information System (IS)
domain could be somewhat problematic (Van Dyke et al., 1999). Recently, a few
studies have begun investigating the suitability of SERVQUAL in assessing the quality
of online services (Gefen & Devine, 2001).
THEORETICAL BACKGROUNDS
a) Online Banking
Internet has emerged as a key competitive arena for the future of financial services
(Cronin, 1998) in that online banking offers customers more features with lower cost
than traditional banking activities. Since the Security First Network Bank (SFNB) first
started its Internet bank on the web site (www.SFNB.com), more than 1,500 financial
institutions have made plans to offer certain forms of Internet banking in 3 years.
Advanced technologies enable banks to utilize new banking products, such as a smart
card and electronic money, through the Internet. Internet banking is easier, more
convenient and offers more features with lower cost than home banking in the 80‘s.
Customers‘ responses to the Internet banking system have been so much different from
the home banking due to its easy accessibility. Customers can access their account from
anywhere in the world and at any time. To secure loyal customers, many banks try to
provide customers with unique online experiences that customers cannot access through
the offline channels.Considering that enormous capital investment is needed for
developing these online banking services, it is very critical for them to measure the
service quality produced by online banking systems.
b) Service Quality
Service quality is generally perceived to be a tool that can be used to create a
competitive advantage and therefore, substantial research into service and service quality
has been undertaken in the last 20 years. Bitner et al. (1990) define service quality as
―the consumers‘ overall impression of the relative inferiority/superiority of the
organization and its services.‖ The most common definition of service quality is the
discrepancy between consumer‘s expectations and perceptions of the service received.

37. 37
Accordingly,service quality is defined as how well a delivered service level matches
customer‘s expectation. Parasuraman et al. (1988, 1991) identified more detailed
dimensions of service quality and developed a well-known instrument, called
SERVQUAL, to measure customer‘s perceptions and expectations from service. The
SERVQUAL instrument consists of five underlying dimensions, with two sets of 22
item statements for the ‗expectation‘ and ‗perception‘ sections of the questionnaire.
Perceived service quality is measured by subtracting customer perception scores from
customer expectation scores, both for each dimension and overall. The five dimensions
of SERVQUAL are (Parasuraman et al., 1988, 1991):
(1) Tangibles, which pertain to the physical facilities, equipment, personnel and
communication materials.
(2) Reliability, which refers to the ability to perform the promised services dependably
and accurately.
(3) Responsiveness, which refers to the willingness of service providers to help
customers and provide prompt service.
(4) Assurance, which relates to the knowledge and courtesy of employees and their
ability to convey trust and confidence.
(5) Empathy, which refers to the provision of caring and individualized attention to
customers.
c) Online Service Quality
During the past several years, some conceptual and empirical studies have
attempted to address the key attributes of service quality directly or indirectly related to
online service and, SERVQUAL has been widely accepted and used in measuring
Information System service quality (Van Dyke et al., 1999). Yang & Jun (2002)
redefined the traditional service quality dimensions in the context of online services, and
suggested an instrument consisting of seven online service dimensions (reliability,
access, ease of use, personalization, security, credibility, and responsiveness). In
addition, Barnes & Vidgen (2002) introduced a method for assessing the service quality
of e-commerce web-sites, called WebQual.Many studies, including these two, have

38. 38
introduced a variety of instruments without testing the suitability of SERVQUAL as an
online service measure.
2.6 CUSTOMER LIFETIME VALUE
In the past two decades, the firms tended to focus on either cost management or
revenue growth. When a firm adopts one of these approaches it loses out on the other
(Rust, Lemon, & Zeithaml, 2004). For instance, if a firm focuses only on revenue
growth without emphasis on cost management, it fails to maximize the profitability.
Similarly, cost management without revenue growth affects the market performance of
the firm. What is needed is an approach which balances the two, creating market-based
growth while carefully evaluating the profitability and return on investment (ROI) of
marketing investments. Optimal allocation of resources and efforts across profitable
customers and cost effective and customer specific communication channels (marketing
contacts) is the key to the success of such an approach. This calls for assessing the value
of individual customers and employing customer level strategies based on customers‘
worth to the firm.
The assessment of the value of a firm‘s customers is the key to this customer-
centric approach. But what is the value of a customer? Can customers be evaluated
based only on their past contribution to the firm? Which metric is better in identifying
the future worth of the customer? These are some of the questions for which a firm
needs answers before assessing the value of its customers. Many customer oriented
firms realize that the customers are valued more than the profit they bring in every
transaction. Customers‘ value has to be based on their contribution to the firm across the
duration of their relationship with the firm. In simple terms, the value of a customer is
the value the customer brings to the firm over his/her lifetime. Some recent studies
(Reinartz &Kumar, 2003) have shown that past contributions from a customer may not
always reflect his or her future worth to the firm. Hence, there is a need for a metric
which will be an objective measure of future profitability of the customer to the firm
(Berger & Nasr, 1998)

39. 39
Customer lifetime value (CLV) is defined as the sum of cumulated cash flows—
discounted using the Weighted Average Cost of Capital (WACC) — of a customer over
his or her entire lifetime with the company.
CLV is a measure of the worth of a customer to the firm. Calculation of CLV for
all the customers helps the firms to rank order the customers on the basis of their
contribution to the firm‘s profits. This can be the basis for formulating and
implementing customer specific strategies for maximizing their lifetime profits and
increasing their lifetime duration.
Calculating CLV helps the firm to know how much it can invest in retaining the
customer so as to achieve positive return on investment. A firm has limited resources
and ideally wants to invest in those customers who bring maximum return to the firm.
This is possible only by knowing the cumulated cash flow of a customer over his or her
entire lifetime with the company or the lifetime value of the customers. Once the firm
has calculated CLV of their customers, it can optimally allocate its limited resources to
achieve maximum return.
2.7 A Study of Customer Retention across Retailers’
Channels
In today‘s fast-paced world, technologies are increasing changing the way
customers interact with companies to create service outcomes (Meuter et al. 2000).
Customers have many different alternatives in which they can interact with a company
(Wiertz et al., 2004). Consequently, in addition to the traditional network of channel
intermediaries (e.g. retail stores and catalogs), customers could purchase anything
through virtual or remote technology (e.g. Internet mobile phone kiosk and voice
response system) (Shostack, 1985; Meuter et al., 2000; Stone and Hobbs, 2001;
Burke, 2002; Montoya-Weiss, Voss, and Grewal, 2003; Wiertz et al., 2004).
Consumers display complex shopping behaviors in this emerging multi-channel
environment (Balasubramanian et al. 2005; Sridhar et al, 2005). Customers may
search for product information online but purchase in a retail store. Therefore, from a

40. 40
manager‘s perspective, companies have to understand the reasons why consumers
choose a specific channel (retail store or online) in their decision making process.
Burke (2002) identified consumer preference for multi-channel shopping (in-
store, online, catalog and television) through the purchase process (product searching,
comparing and buying) and presented it by demography. Nunes and Cespedes (2003)
analyzed different types of customers get what they need at each stage of the purchase
process – through one channel or another.
According to the Baal and Dach’s (2005) study, we use ―Do customers use the
same channel from searching to purchasing?‖ and ―Do customers contact with the same
firm from searching to purchasing?‖ as two dimensions to construct a consumer
behavior matrix which includes switch, cross-channel free-riding, retention, and cross-
channel retention (FIGURE 1). In the past, consumer attained all their needs from a
single integrated channel at different stage of their decision making. ―Switch‖ and
―Retention‖ are signal-channel consumer behavior. But now, in the multi-channel
environment, ―Cross-channel free-riding‖ and ―Cross-channel retention‖ are multi-
channel consumer behavior. In this study, we focus on cross-channel retention of multi-
channel consumer behavior.

41. 41
Retetion Cross-Channel Retention
EX: searching online
channel of A-firm ,
then
purchasing A-firm
online
channel
EX: searching online channel
of A-firm , then purchasing
A-firm offline channel
Switch Cross channel Free – Riding
EX: searching online
channel
of A-firm , then
purchasing
B-firm online
channel
EX: searching online channel
of A-firm, then purchasing
B-firm offline channel
There is still an issue we take into concern is customers‘ cross-channel behavior
takes place in different purchasing stages (Baal and Dach, 2005). Nowadays, it is very
common that customers browse or inquire in an online retailer will use the information
Do customers use the same channel
from searching to purchasing?
NOYES
YESDo customers
contact with the
same firm from
searching to
purchasing?
NO
Figure 1 Type of Multi-Channel Customers

42. 42
they gained to purchase in traditional stores (Burke, 2002). We could see in different
circumstances cross-channel customers going from online to offline or from offline to
online. However, on the basis of Baal and Dach’s (2005) investigation, 10.4% of the
respondents consulted the Web sites of the retailers from whom they purchased, and
only 1.8% of customers completed their purchases in the online channels after gathering
information in the traditional stores. In other words, the rate of cross-channel customers‘
retention going from online to offline is higher than going from offline to online. So this
study focuses on the retention of cross-channel customers going from online searching
to offline purchasing.
The aim of this study is for multi-channel service providers to realize under what
circumstances cross-channel customer retention likely, and determine what would be the
―ideal shopping experience‖ from the customer‘s perspective.
Theoretical Background
A. Online-Channel Perceived Risk
Perceived risk has two componnts: uncertainty (the likelihood of unfavorable
outcomes) consequences (the importance of a loss) (Bauer 1960). Different types of risk
exist, namely, financial, performance, time, physical, psychological, and social risks
(Havlena and DeSarbo, 1991; Jacoby and Kaplan 1972; Murray and Schlacter,
1990). Perceived risk also varies across methods of shopping. Nontraditional shopping
may have higher risk than traditional shopping (Gillett, 1976).
B. Online-Channel Switching Barrier
Switching barriers are defined as the degree to which customers experience a
sense of being locked in to a relationship based on the economic, social, or
psychological costs associated with leaving a particular service provider (Bendapudi &
Berry, 1997; Allen & Meyer, 1990; Rusbult, Farrell, Rogers, & Mainous, 1988).
Among these factors, economic and psychological are most common of the switching
barriers.

43. 43
C. Online-Channel Attractiveness
Attractiveness—the positive characteristics of competing service providers—
positively influences consumers‘ intentions to switch (e.g., Jones et al. 2000).
enjoyment exchange behavior is reflected in the intrinsic emotion that comes from
engaging in activities that are absorbing, to the point of offering an escape from the
demands of the day-to-day world (Huizinga, 1955; Unger & Kernan, 1983). Oliver
(1999) characterizes excellence of value as operating as an ideal, a standard against
which quality judgments are ultimately formed.
2.8 MEASURING CUSTOMER EQUITY AND
CALCULATING MARKETING ROI
Marketing managers and top executives frequently want to know which
marketing expenditures to increase, to forecast the profitability among possible
marketing investments, and to track them later to determine their financial returns. For
example, they want to know how to compare the return from an advertising campaign
with that of a service quality improvement program, or an interior store redesign with an
upgrade to a website.
Customer Lifetime Value
A useful way to approach the marketing accountability problem is to consider
marketing‘s effect on customer lifetime value. If we can measure the impact of
marketing on individual customers‘ lifetime values (future profit streams), then
marketing‘s effects are measurable and accountable. By focusing on marketing‘s effect
on individual customers, rather than the impact of aggregate expenditures, a firm can
create a customer-centered approach to brand management (Rust, Zeithaml, & Lemon,
2004) that involves a customer-centered marketing strategy (Rust, Lemon, &
Narayandas, 2005; Rust, Zeithaml, & Lemon, 2000) and ability to evaluate marketing
ROI (Rust, Lemon, & Zeithaml, 2004).

44. 44
What is Customer Equity?
When we aggregate the customer lifetime values of a firm‘s individual
customers, the result is the ―customer equity‖ of the firm. Customer equity is therefore
the sum of the customer lifetime values of the firm‘s current and future customers.
Customer Equity and the Value of the Firm
Customer equity is a proxy for the value of the firm (Gupta, Lehmann, &
Stuart, 2004).Aside from accounting adjustments for expenditures such as plant and
equipment and financial liabilities, the customer equity of the firm is equivalent to the
value of the firm. Therefore, documenting the effect of marketing expenditures on
customer equity provides a measure of financial return on those investments.
Customer Equity as a Practical Approach to Marketing Accountability
Many companies have adopted customer equity as an approach to marketing
strategy and marketing accountability, including at least three of the top 10 Fortune 500
companies (IBM, General Motors, and ChevronTexaco).
Alternative Approaches to Customer Equity
Direct Marketing/CRM Models
One popular approach to modeling customer equity has been the direct marketing/CRM
Approach (e.g., Rust & Verhoef, 2005; Venkatesan & Kumar, 2004). In this
approach, the firm builds a customer database to record each customer‘s purchases along
with marketing activities that have been targeted at the specific customers. The
advantage of this approach is that actual customer behavior is being analyzed. The
disadvantages of this approach are:
Many firms do not have the appropriate databases
The databases rarely include the customer‘s choices of competing brands
The set of marketing expenditures that can be analyzed is typically limited to
direct mailings and other direct contacts; and

45. 45
We cannot learn why the customer chooses to buy from the firm.
Acquisition vs. Retention Models
In this approach, customer equity is viewed as arising from customer acquisition and
Customer retention expenditures (Blattberg & Deighton, 1996). The typical assumption
is that the firm owns a database that contains customer behavior and customer-firm
contacts over time (e.g., Thomas, 2001). The advantages and disadvantages of this
method are the same as for Direct Marketing/CRM models, with the added disadvantage
that knowing optimal acquisition versus retention expenditures does not provide precise
enough information to examine the impact of particular acquisition or retention
expenditures (e.g., should the customer acquisition expenditures be for brand advertising
or direct selling?)
Customer Retention-Based Models
Most approaches to customer lifetime value and customer equity begin with the firm‘s
existing customer base, and then analyze customer retention (e.g., Bolton, 1998; Gupta,
Lehmann, & Stuart, 2004; Rust, Zahorik, & Keiningham, 1995). The assumption is
that once customers leave, they are gone for good. Recent research has demonstrated
that this assumption can underestimate customer lifetime value by as much as 47%
(Rust, Lemon, & Zeithaml, 2004). The problem is that customer retention-based
models fail to model the possibility of a customer switching back to the original brand, a
behavior that happens routinely in many purchase categories particularly in consumer
packaged goods.
Drivers of Customer Equity
To model the brand switching matrix at the individual customer level, we need to
understand what drives customer switching and customer retention. All marketing
expenditures or drivers of customer equity can be grouped into three main categories—
value equity, brand equity, and relationship equity (Rust, Zeithaml, & Lemon, 2000).
Value equity includes drivers involving quality, price, convenience, and other objective
perceptions of the offering. Brand equity, on the other hand, focuses on subjective
perceptions such as brand image, brand awareness, and brand ethics. Relationship equity

46. 46
involves factors that increase switching costs that are not subsumed by value equity and
brand equity, such as frequent buyer programs and ongoing relationship maintenance
activities.
The Chain of Effects
The heart of the brand switching-based approach to customer equity is a chain of
effects model that creates a statistical link from changes in perceptions of the drivers to
change in customer equity. The chain is seen at the individual level as:
Driver perceptions => switching matrix => Customer Lifetime Value
The Choice Model
The choice model is conditional on the most recent brand chosen. That is, if
Kevin chose Brand A last time, his choice probabilities will be different than if he chose
Brand B last time, even if all of his brand perceptions are the same. This condition
reflects the effect of inertia on choice.
The Switching Matrix
The utility of each brand conditional on the previous brand chosen may be
obtained According to the equation:
Utility = Inertia + Utility from drivers + Random error
The inertia term enters the equation only for the choice alternative that was
selected most recently. This reproduces the pattern that we see in actual brand choice—
that ―stickiness‖ to the choice of brand exists.
Customer Lifetime Value
Based on the switching matrix, the probabilities of brand choice for all future
purchases by each customer may be projected. This, in turn, may be converted to
customer lifetime value, assessed using variables such as the average inter-purchase
time, average quantity per purchase, and the firm‘s discount rate and time horizon. The
firm may then calculate its customer equity by taking the average customer lifetime
value from the sample and multiplying it by the number of customers in the market.

47. 47
2.9 Customer retention in the financial industry
Generally speaking, a company could increase its profits by acquiring new
customers, augmenting profitability from existing customers by enhancing their one
time purchase volume, and enhancing the duration of customer retention (Grant and
Schlesinger 1995). In the past, most companies focused on the first two approaches.
However, those strategies have been found not to be very effective and efficient in
markets that are saturated. Recently, in both marketing theory (academia) and practice
(industry), the emphasis in relationship marketing has shifted to long term customer
relationship management (Reinartz and Kumar 2003; Al-Hawari 2006). Managers
and researchers have emphasized the importance of customer retention, the dynamics of
customer relationship, and customer lifetime value (Reinartz and Kumar 2003) for
which customer retention is an important component (Gupta, Lehmann, and Stuart
2004). Customer retention has been suggested as an important antecedent to financial
outcome (Evanschitzky and Wunderlich 2006). Compared to short-term customers,
long-term oriented customers could offer substantial benefits to a company. Higher
retention leads to higher profits across firms in various industries (Reichheld 1991-
1992; Reichheld, Markey, and Hopton 2000). Increasing customer retention could be
effective in both raising revenue and lowering costs (Keaveney and Parthasarathy
2001).
Higher volumes at higher margins and increase service usage even when price
increases (Reichheld 1996). On the cost side, researchers claim that the cost of
recruiting a new customer is estimated to be five times more than that of retaining an
existing customer (Hart, Heskett, and Sasser 1990). Therefore, improving customer
retention could benefit profits of companies. In the sector of interest to this study, it has
been estimated that ―reducing defections by just 5% generated 85% more profits in one
bank's branch system, and 50% more in an insurance brokerage‖ (Reichheld and Sasser
1990). An increase in customer retention is suggested to be helpful for companies to
gain a competitive advantage, expand their market share, and increase employee
satisfaction (Buttle and Ahmad 2002; Swailes and Dawes 1999).

48. 48
Enhancing customer retention is beneficial for acquiring new customers. Loyal
customers are more likely to generate word of mouth (WOM) advertising because of
their positive attitude toward the current provider. New customers could be attracted by
positive WOM, which enhances revenue and market share. Reichheld (1991-1992)
found that between 20% and 40% of new customers chose a bank based on a
referal.Researchers claim that individuals are more likely to keep their first credit card
used in college a long time after they graduate from college and generate reasonable
income (Dugas 2001).
Customer retention analysis is fundamental to evaluating customer lifetime value
and the intangible value of a company (Gupta et al. 2004). Customer lifetime value is
referred as a long-term view of a customer‘s profitability. It is defined as the present
value of the future profitability based on the customer relationship (Pfeifer, Haskins,
and Conroy 2005). Customer lifetime value for a firm is the net profit or loss to the firm
from a customer over the entire relationship life (Singh 2002). Customer lifetime value
(CLV) is increasingly considered as a guide for a firm.
Optimizing its marketing mix across the customer base and in decision-making
toward marketing strategy (Libai, Narayandas, and Humby 2002). Besides tangible
assets listed in the annual report, intangible assets (such as brand, customers, and
employees) are critical to firm value, especially when considering future profitability
(Gupta et al. 2004). Researchers have suggested that customer based value forms a
large part of a company‘s intangible value and could be treated as a proxy for firm value
(Gupta et al. 2004). A firm’s customer-based value is the sum of the customer
lifetime values (CLV) of its current and future customers. A customer retention
forecast is one component of the formula to calculate CLV. Increased customer
retention was found to have the greatest effect on customer lifetime value, followed by
improved margin, reduced acquisition costs, and the discount rate (Gupta et al. 2004).
Therefore, long-term customer retention projections could be very valuable for
fully assessing the value of a company. Due to the saturation and fierce competition of
financial markets, as a prerequisite to profitability and intangible value of a company,

49. 49
customer retention is very important (Veloutsou, Daskou, and Daskou 2004).
Retention or attribution research has been increasingly emphasized in this context.
Many studies of customer retention have been conducted in a service-wide context,
such as retailing, insurance, and banking (Al-Hawari 2006; Boulding, Kalra,
Staelin, and Zeithaml 1993; Ranaweera and Neely 2003; Zeithaml, Berry, and
Parasuraman 1996). Service quality, customer satisfaction, trust, switching costs,
pricing, and brand image have been suggested as factors impacting whether a
customer will stay or switch (Bloemer, Ruyter, and Peeters 1998; Baumann,
Burton, and Elliott 2005; Colgate and Lang 2001).
Relationship Management strategies have been used to retain customers and
build loyalty. Generally, those strategies involve creating loyalty programs, selling more
products or services to existing customers, improving customer service quality and
customer satisfaction, developing consumer trust, and increasing customer switching
cost (Fitzgibbon and White 2005). Customer retention and loyalty were usually
considered as synonymous by practitioners and academic researchers (Al-Hawari 2006;
Boulding et al. 1993; Ranaweera and Neely 2003; Zeithaml et al. 1996), while
customer retention has been used to measure customer behavioral loyalty.
2.10 Customer Retention
Before taking any decision regarding Customer retention or Customer retention
Strategy, it is necessary to understand the Customer retention and then after
organization is able to Build a customer retention strategy, then they are able to
implement a customer retention program.
Managers and researchers have emphasized the importance of customer
retention, the dynamics of customer relationship, and customer lifetime value (Reinartz
and Kumar 2003) for which customer retention is an important component (Gupta,
Lehmann, and Stuart 2004). Customer retention has been suggested as an important
antecedent to financial outcome (Evanschitzky and Wunderlich 2006). On the cost
side, researchers claim that the cost of recruiting a new customer is estimated to be five

50. 50
times more than that of retaining an existing customer (Hart, Heskett, and Sasser
1990). Therefore, improving customer retention could benefit profits of companies.
Customer retention analysis is fundamental to evaluating customer lifetime
value and the intangible value of a company (Gupta et al. 2004). Customer lifetime
value is referred as a long-term view of a customer‘s profitability. Many studies of
customer retention have been conducted in a service-wide context, such as
retailing, insurance, and banking (Al-Hawari 2006; Boulding, Kalra, Staelin, and
Zeithaml 1993; Ranaweera and Neely 2003; Zeithaml, Berry, and Parasuraman
1996). Service quality, customer satisfaction, trust, switching costs, pricing, and
brand image have been suggested as factors impacting whether a customer will stay
or switch (Bloemer, Ruyter, and Peeters 1998; Baumann, Burton, and Elliott 2005;
Colgate and Lang 2001). Hence, Relationship Management strategies have been used
to retain customers and build loyalty. Generally, those strategies involve creating loyalty
programs, selling more products or services to existing customers, improving customer
service quality and customer satisfaction, developing consumer trust, and increasing
customer switching cost (Fitzgibbon and White 2005).
Kano‘s model of customer satisfaction can be optimally combined with quality
function deployment. A prerequisite is identifying customer needs, their hierarchy and
priorities (Griffin/Hauser, 1993). Kano‘s model is used to establish the importance of
individual product features for the customer‘s satisfaction and thus it creates the optimal
prerequisite for process- oriented product development activities. Kano‘s method
provides valuable help in trade-off situations in the product development stage. If two
product requirements cannot be met simultaneously due to technical or financial reasons,
the criterion can be identified which has the greatest influence on customer satisfaction.

51. 51
The adherents of customer retention argue that retaining customers improves
profitability, mainly by reducing the costs incurred in acquiring new customers
(Reichheld and Kenny, 1990; Reichheld, 1996; Schmittlein, 1995). The prime
objective of customer retention (CR) is to achieve ―zero defections‖ of profitable
customers (Reichheld, 1996), so that customer ―churn‖ is minimised.In addition, CR
incorporates the notion of offering these retained customers goods or services that are
thought likely to meet their needs (e.g. Reichheld and Kenny, 1990).
The last but not the least it is necessary to understand the customer otherwise the
whole process of Customer retention goes for a toss.
2.11 Modeling Customer Lifetime Value
As modern economies become predominantly service based, companies increasingly
derive revenue from the creation and sustenance of long-term relationships with their customers.
In such an environment, marketing serves the purpose of maximizing customer lifetime value
(CLV) and customer equity, which is the sum of the lifetime values of the company‘s customers.

52. 52
This article reviews a number of implementable CLV models that are useful for market
segmentation and the allocation of marketing resources for acquisition, retention, and cross-
selling. The authors review several empirical insights that were obtained from these models and
conclude with an agenda of areas that are in need of further research.
Customer lifetime value (CLV) is gaining increasing importance as a marketing metric
in both academia and practice. Companies such as Harrah‘s, IBM, Capital One, revealed
preferences rather than intentions. Furthermore, sampling is no longer necessary when you have
the entire customer base available. At the same time, sophistication in modeling has enabled
marketers to convert these data
Into insights. Current technology makes it possible to leverage these insights and customize
marketing programs for individual customers.
The purpose of this article is to take stock of the advances in CLV modeling
and identify areas for future research. This article is the outcome of intensive 2-day
discussions during the ―Thought Leadership Conference‖ organized by the University of
Connecticut. The discussion groups consisted of a mix of academics and practitioners.
Firm Value
CLV & CE
Customer Acquisition Customer expansionCustomer Retention

53. 53
2.12 Customer retention in the financial industry: An
application of survival analysis
Generally speaking, a company could increase its profits by acquiring new
customers, augmenting profitability from existing customers by enhancing their one
time purchase volume, and enhancing the duration of customer retention (Grant and
Schlesinger 1995). In the past, most companies focused on the first two approaches.
However, those strategies have been found not to be very effective and efficient in
markets that are saturated. Recently, in both marketing theory (academia) and practice
(industry), the emphasis in relationship marketing has shifted to long term customer
relationship management (Reinartz and Kumar 2003; Al-Hawari 2006). Managers
and researchers have emphasized the importance of customer retention, the dynamics of
customer relationship, and customer lifetime value (Reinartz and Kumar 2003) for
which customer retention is an important component (Gupta, Lehmann, and Stuart
2004).
Compared to short-term customers, long-term oriented customers could offer
substantial benefits to a company. Higher retention leads to higher profits across firms
in various industries (Reichheld 1991-1992; Reichheld, Markey, and Hopton 2000).
Increasing customer retention could be effective in both raising revenue and lowering
costs (Keaveney and Parthasarathy 2001).
It has been estimated that ―reducing defections by just 5% generated 85% more
profits in one bank's branch system, and 50% more in an insurance brokerage‖
(Reichheld and Sasser 1990). An increase in customer retention is suggested to be
helpful for companies to gain a competitive advantage, expand their market share, and
increase employee satisfaction (Buttle and Ahmad 2002; Swailes and Dawes 1999).
Enhancing customer retention is beneficial for acquiring new customers. Loyal
customers are more likely to generate word of mouth (WOM) advertising because of
their positive attitude toward the current provider. New customers could be attracted by

54. 54
positive WOM, which enhances revenue and market share. Reichheld (1991-1992)
found that between 20% and 40% of new customers chose a bank based on a referral.
A firm‘s customer-based value is the sum of the customer lifetime values (CLV)
of its current and future customers. A customer retention forecast is one component of
the formula to calculate CLV.
Many studies of customer retention have been conducted in a service-wide
context, such as retailing, insurance, and banking (Al-Hawari 2006; Boulding, Kalra,
Staelin, and Zeithaml 1993; Ranaweera and Neely 2003; Zeithaml, Berry, and
Parasuraman 1996). Service quality, customer satisfaction, trust, switching costs,
pricing, and brand image have been suggested as factors impacting whether a customer
will stay or switch (Bloemer, Ruyter, and Peeters 1998; Baumann, Burton, and
Elliott 2005; Colgate and Lang 2001).
Relationship Management strategies have been used to retain customers and
build loyalty. Generally, those strategies involve creating loyalty programs, selling more
products or services to existing customers, improving customer service quality and
customer satisfaction, developing consumer trust, and increasing customer switching
cost (Fitzgibbon and White 2005). Customer retention and loyalty were usually
considered as synonymous by practitioners and academic researchers (Al-Hawari 2006;
Boulding et al. 1993; Ranaweera and Neely 2003; Zeithaml et al. 1996), while
customer retention has been used to measure customer behavioral loyalty. In the current
research, those two terms are treated as transferable constructs. There are two analytical
or statistical approaches used by prior customer retention research. The first one is static
and short-term customer attrition or retention analysis. It is usually conducted with a
forecast window of less than one year and used to identify customer segments, and set
marketing campaigns. The object is to reduce attrition or increase customer loyalty. The
second approach is dynamic. Long-term retention forecasting is conducted to calculate
customer lifetime value and guide long- term business strategy, while aiding short-term
marketing campaigns.

55. 55
2.13 Switching Barriers in the Four-Stage Loyalty
Model
Numerous studies have linked customer satisfaction to financial outcomes
(Anderson, Fornell, and Lehmann 1994; Anderson, Fornell, and Rust 1997;
Bernhardt, Donthu, and Kennett 2000;Ittner and Larcker 1998; Keiningham et al.
1999). However, in moving from a transaction orientation to a relationship orientation
(Berry 1995; Grönroos 1995; Morgan and Hunt 1994), contemporary marketing
thought acknowledges that gaining and sustaining customer loyalty as the ultimate goal
may be more important than achieving customer satisfaction (Agustin and Singh 2005).
Obviously, the link between customer satisfaction, customer loyalty, and
financial outcome is not as straightforward as it may seem (Carroll 1991; Carroll and
Rose 1993; Reinartz and Kumar 2000). Yet researchers and managers acknowledge
that small changes in loyalty and retention can yield disproportionately large changes in
profitability (Reichheld 1993; Reichheld, Markey, and Hopton 2000; Reichheld and
Teal 1996).
Despite this obvious managerial relevance, earlier research primarily analyzed
the link between satisfaction ratings and repurchase intention. Few studies have
examined the link between satisfaction ratings and repurchase behavior (Mittal and
Kamakura 2001; Zeithaml 2000). Adding to that stream of research, (Seiders et al.
(2005) summarize and extend the literature by proposing that the relationship between
satisfaction and repurchase behavior is moderated by customer, relational, and
marketplace characteristics. Only recently, has (Oliver’s (1997) four-stage loyalty
model been subject to more extensive empirical testing (Evanschitzky and Wunderlich
2006; Harris and Goode 2004; Olsen 2002).
CONCEPTUAL FRAMEWORK
Until the 1970‘s, loyalty was understood as repeat purchase behavior, primarily
considering repeat purchase cycles (Bass 1974).Following that, a behavioral approach
toward explaining purchase patterns emerged. Among the first proponents of such a

56. 56
behavioral approach was (Jacoby (1973, 1978). Loyalty was defined as a biased
nonrandom) repeat purchase of a specific brand (from a set of alternatives) over time by
a consumer, using a deliberate evaluation process (Jacoby and Kyner 1973). Later,
(Jacoby and Chestnut 1978) note that the belief, affect, and intention structure of a
consumer must be examined in order to analyze loyalty.
Despite these seminal works, there is still no universal agreement on the
definition of loyalty (Dick and Basu 1994; Jacoby and Chestnut 1978; Oliver 1999;
Uncles, Dowling, and Hammond 2003). According to (Uncles et al. (2003), three
popular conceptualizations of loyalty exist: loyalty as an attitude that leads to a
relationship with the brand; loyalty expressed mainly in terms of revealed behavior; and
buying moderated by the individual‘s characteristics, circumstances, and/or the purchase
situation.
We use (Oliver’s (1997) definition, because it includes both attitudinal and
behavioral aspects of loyalty. (Oliver (1997) defines loyalty as a deeply held
commitment to rebuy or repatronize a preferred product or service consistently in the
future, thereby causing repetitive same-brand or same brand-set purchasing, despite
situational influences and marketing efforts that have the potential to cause switching
behavior. He introduces a four-stage loyalty model, implying that different aspects of
loyalty do not emerge simultaneously, but rather consecutively over time (Oliver 1999).
More than a clarification, this model extends the loyalty sequence ―cognitive-affective-
conative‖ by including an observable behavior, for example actual purchase behavior. At
each loyalty stage, different factors influencing loyalty can be detected.
a) Cognitive Loyalty
At this stage, consumer loyalty is determined by information relating to the
offering, such as price, quality, and so forth. It is the weakest type of loyalty, since it is
directed at costs and benefits of an offering and not at the brand itself. Therefore,
consumers are likely to switch once they perceive alternative offerings as being superior
with respect to the cost-benefit ratio (Kalyanaram and Little 1994; Sivakumar and
Raj 1997).

57. 57
b) Affective Loyalty
Affective loyalty relates to a favorable attitude towards a specific brand. Attitude
itself is a function of cognition (e.g.,expectation). Satisfaction is a global affect
evaluation or feeling state which can be predicted from perceived performance as the
cognitive component of the evaluation (Oliver 1993; Phillips and Baumgartner 2002;
Westbrook and Oliver 1991). Expectancy confirmation leads to satisfaction, which in
turn effectuates affective loyalty (Bitner 1990). Oliver (1997) defines satisfaction as
―the consumer‘s fulfillment response, the degree to which the level of Fulfillment is
pleasant or unpleasant.‖
c) Conative Loyalty
Conative loyalty implies that attitudinal loyalty must be accompanied by a desire
to intend an action, for example repurchase a particular brand. It is stronger than
affective loyalty, but has vulnerabilities as well. Repeated delivery failures are a
particularly strong factor in diminishing conative loyalty. Consumers are more likely to
try alternative offerings if they experience frequent service failures. Even though the
consumer is conatively loyal, he has not developed the resolve to avoid considering
alternative offerings (Oliver 1999).
d) Action Loyalty
Action control studies imply that not all intentions are transformed into action
(Kuhl and Beckmann 1985). The three previous loyalty states may result in a readiness
to act (in this case, to buy).This readiness is accompanied by the consumer‘s willingness
to search for the favorite offering despite considerable effort necessary to do so.
Competitive offerings are not considered as alternatives.
SWITCHING BARRIERS AND CUSTOMER LOYALTY
a) Social Benefits
Customers build interpersonal relationships with service personnel.These bonds
between the customers and the firm result in the former receiving social benefits (Berry
and Parasuraman 1991). The same interactions can lead consumers to develop strong
personal relationships with the company (Grönroos 1990; Parasuraman, Zeithaml,
and Berry 1985) and bind customers (Bateson and Hoffman 1999). As interactions

58. 58
between provider employees and customers are repeated over time, the motivation for
the development of a social aspect to the relationship necessarily increases (Czepiel,
Solomon, and Suprenant 1985).
b) Attractiveness of Alternatives
Depending on the quality of competing alternatives, the customer perceives a
benefit in changing the provider (Oliver 1997).The more attractive the alternatives are,
the higher the perceived benefits when switching (Jones et al. 2000). Therefore,
consumers are likely to switch once they perceive alternative offerings as being superior
with respect to the cost-benefit ratio (Kalyanaram and Little 1994; Sivakumar and
Raj 1997).
c) Perceived Switching Costs
In many instances, customers are loyal to a provider, because of the difficulty of
changing to a different firm. In accordance with (Jones et al. 2000), switching is likely
to involve various behavioral and psychological aspects, given that switching costs
include the time, money and effort the customer perceives, when changing from one
provider to another, more specifically, they entail search and learning costs (Jones,
Mothersbaugh, and Beatty 2002). The consumers already know the routines of their
current provider, acting as a kind of specific investment, whereas these investments were
lost when changing to another provider. Switching costs can affect loyalty, such as with
increasing perceived costs of an activity, the probability of a consumer acting that way
diminishes.
2.14 Service Recovery Management: Closing The Gap
Between Best Practices And Actual Practices
SERVICE RECOVERY
WHAT IT IS, WHY IT MATTERS—AND ITS UNREALIZED POTENTIAL
Service recovery refers to the actions a provider takes in response to a service
failure (Grönroos, 1988). A failure occurs when customers‘ perceptions of the service
they receive do not match their expectations.

59. 59
Interest in service recovery has grown because bad service experiences often lead
to customer switching (Keaveney, 1995), which in turn leads to lost customer lifetime
value (Rust, Zeithaml,& Lemon, 2000). However, a favorable recovery positively
influences customer satisfaction (Smith, Bolton, & Wagner, 1999; Zeithaml, Berry,
& Parasuraman, 1996), word-of-mouth behavior (Maxham, 2001; Oliver & Swan,
1989; Susskind, 2002; Swanson & Kelley, 2001), customer loyalty (Bejou & Palmer,
1998; Keaveney, 1995; Maxham, 2001; Maxham & Netemeyer, 2002b), and,
eventually, customer profitability (Hart, Heskett, & Sasser, 1990; Hogan, Lemon, &
Libai, 2003; Johnston, 2001a; Rust, Lemon, & Zeithaml, 2004; Sandelands, 1994).
Although some studies show that good initial service is better than an excellent recovery
(Berry, Zeithaml, & Parasuraman, 1990), other empirical work suggests that an
excellent recovery can lead to even higher satisfaction and loyalty intentions among
consumers than if nothing had gone wrong in the first place (Bitner, Booms, &
Tetreault, 1990; McCollough, 1995; McCollough & Bharadwaj, 1992), in a
phenomenon referred to as the ―service recovery paradox‖ (Zeithaml & Bitner, 2003).
In summary, considerable evidence indicates the importance of service recovery and the
―best practices‖ associated with effective service recovery management.
BEST PRACTICES IN SERVICE RECOVERY
Interdisciplinary services literature offers a rich source of research and insights
into effective service recovery. For example, one pattern reflects a discipline-based bias
toward the study of service recovery.Management literature focuses on employees and
how to prepare them to recover from service failures (Bowen & Johnston, 1999), which
we term an employee recovery perspective. Operations literature centers more on the
processes and how to learn from failures to prevent them in the future (Johnston &
Clark, 2005; Stauss, 1993), which we refer to as process recovery . Finally, marketing
literature focuses on the customer experience and satisfying the customer after a service
failure (Smith et al., 1999; Tax, Brown, & Chandrashekaran, 1998), which we call
customer recovery.

60. 60
Customer Recovery
The vast majority of service recovery literature focuses on customer recovery.
We do not attempt to summarize this entire rich body of research herein but instead
highlight two key, far-reaching findings. First, perceived fairness is a strong antecedent
of customer satisfaction with the recovery effort by the firm. Second, though companies
may recover customers after one failure, it is very difficult to recover from multiple
failures.
Fairness is key
Recent contributions show that perceived justice represents a significant factor in
service recovery evaluations (Seiders & Berry, 1998; Smith et al., 1999; Tax et al.,
1998). Because a report of a service failure implies, at least to some extent, ―unfair‖
treatment of the customer, service recovery must reestablish justice from the customer‘s
perspective. Justice consists of three dimensions—distributive, procedural, and
interactional (e.g., Greenberg, 1990)—and all three types contribute significantly to
customers‘ evaluations of recovery (Clemmer & Schneider, 1996; Tax & Brown,
1998). For example, distributive justice focuses on the allocation of benefits and costs
(Deutsch, 1985) and acknowledges that customers consider the benefits they receive
from a service in terms of the costs associated with it (e.g., money, time). When they do
not receive expected outcomes, they are dissatisfied, which demands service recovery.
Fixing the customer means that during a service recovery encounter, the
customer‘s negative emotions (e.g., anger, hate, distress, anxiety) must be addressed
before he or she will be willing or able to accept a solution. In service recovery,
procedural justice and interactional justice thus must be reestablished before distributive
justice can be addressed. In this context, procedural justice relates to the evaluation of
the procedures and systems used to determine customer outcomes (Seiders & Berry,
1998), such as the speed of recovery (Clemmer & Schneider, 1996; Tax et al., 1998)
or the information communicated (or not communicated) about the recovery process
(Michel, 2003). Firms must describe ―what the firm is doing to resolve the problem so
that customers understand mitigating circumstances and do not incorrectly attribute
blame to the service firm when it is not responsible‖ (Dubé & Maute, 1996, p. 143).

61. 61
Do not fail twice
You will be forgiven—but usually only once. Service recovery is likely to work
after a single service failure but not after the company has failed the same customer
twice (Maxham & Netemeyer, 2002a). In addition, customers‘ ―zone of tolerance,‖ or
how much variance they will accept between what they expect to receive and what they
perceive they actually receive, is wider when they assess the firm‘s service delivery but
narrows when they evaluate its attempt at service recovery (Parasuraman, Berry, &
Zeithaml, 1991). Thus, no recovery strategy can delight the customer if an initial failure
progresses into a recovery failure (Johnston & Fern, 1999).
Collect failure data
Three methods to detect service failures emerge from existing literature: Total
Quality Management (TQM), mystery shoppers, and critical incidents. Most
manufacturing companies adopt some tools and concepts associated with TQM (Powell,
1995), as have many service companies (Lovelock & Wirtz, 2007). The most well-
known approaches include ISO 9000 certification (Corbett, 2006), the Malcolm-
Baldrige National Quality Award (MBNQA) (Lee, Zuckweiler, & Trimi, 2006), and
Six Sigma (George,2003). Although these programs differ in their scope and method, all
require firms to monitor and measure service failures. Consequently, firms that apply
TQM programs generate valuable data about service failures.
Mystery shopping offers another way to detect problems (Erstad, 1998; Finn,
2001), because it involves field researchers making mock purchases, challenging service
centers with mock problems, and filing mock complaints.
Analyze and interpret service failure data
Service firms often suffer from a tendency to overcollect but underutilize data
(Schneider & Bowen,1995). Learning from failures moves service recovery away from
a transactional activity, interested only in recovering and satisfying an individual
customer, toward management activity that improves systems and processes to ensure