CRM: how much value can it really create? September 2001

Avexing question for a number of airlines is how much value does CRM (Customer Relationship Management) really deliver to the bottom line? While this question remains unanswered, many sceptical senior managers will continue to pay lip services to the strategic importance of a customer–centric perspective and will continue with business as usual.

McKinsey’s investigation into 17 world class airlines clearly indicates that significant revenue improvements, of between 0.9% and 2.4%, are achievable. This revenue increase comes from three areas:

* Re–attracting defected customers, which accounts for 0.1–0.3% of revenues;

* Increasing the share of a customer’s travel wallet, which accounts for 0.3- 1.2% of revenues;

* Acquisition of new customers, which accounts for about 0.05% of revenues.

Associated with these revenues are costs which amount to between 0.3% and 0.6% of the existing cost base:

* Additional flights needed as incentives are estimated to add 0.2–0.4% to costs; * New costs associated with additional CRM initiatives amount to 0.2–0.5% of costs;

* Against this, there are reductions in costs in the order of 0.1–0.3% due to more efficient and targeted running of the existing CRM program.

So the bottom–line impact of CRM is significant, ranging from $100–250m a year for a large airline through $25–60m for a medium sized airline to $15–50m for a small carrier.

To capture this value however, requires world–class CRM execution, bringing together multiple airline functions which can only effectively be done once top management attention and commitment has been made.

To implement CRM, airlines need to master four critical areas:

1. Knowing your valuable customers

First, airlines need to appreciate the true current profitability of their customer; second, airlines need to be aware of the current potential value of a customer; and third airlines need to gain insight into the future potential value of a passenger. Understanding current profitability requires knowledge of both the revenues derived from a customer and the associated costs that can distinctly allocated to the individual. This is not straight–forward:

• Obtaining the data needed for the analysis is difficult since it either not collected or incapable of being collected;
• Different departments own the data and are reluctant to release them for purposes of analysis;
• Treatment of costs is open to much debate — should allocated costs be marginal or on a fully loaded basis, or should general marketing expense be allocated to particular members? Should opportunity cost be modelled, which reflects the cost of a point–redeeming FFP member displacing a paying customer?

Performing a true profitability analysis reveals that customer profitability varies significantly between and across frequent flier tiers. It is not unusual to find lower tier members demonstrating greater levels of profitability, for instance, due to the way they exercise their frequent flyer awards.

Therefore, traditional segmentation and marketing campaigns based on frequent flier tiers do not necessarily drive the most effective results. At best frequent flyer segmentation mis–allocates resources towards unprofitable customers, and at worst drives profit–destroying behaviour.

Understanding the current potential value of a customer goes beyond the value that an airline is currently extracting from that customer and looks at the total spend of that customer with other airlines on competitive routes. Analysis shows that while passengers tend to be loyal to a single or limited number of airlines, they will switch according to a number of factors, which can be directly influenced by the airline.

Determining the reasons why a customer switches and devising a set of incentives to ensure a greater share of wallet is key to success

Understanding the future potential value of customers focuses on the potential of new customers who are currently active travellers. Determining this value requires consideration of passengers’ travel patterns and their ability to switch airline if correctly incentivised. Emphasis is placed on current travellers rather than dormant travellers (those customers who were once profitable, but due to circumstances do not travel any longer).

One airline that undertook this exercise was able to identify potentially valuable customers with a 60–70% confidence level. Knowing this enables airlines to target very specific offers to those customers.

2. Understanding customers and what drives their behaviour

Within the airline industry, two specific behavioural characteristics determine the propensity for a customer loyalty. The most important characteristics are those influenced by level of market competition and corporate–policy constraints. The second most important set of characteristics is driven by customer attitudes or mindsets.

Behaviour driven by market captivity constraints is determined by the level of carrier competition in a particular market or on specific city pair. Where competition is limited either on a hub basis on a city–pair basis, an airline would expect to see high levels of levels of loyalty. Where the competition is fierce, then the level of loyalty would be correspondingly low.

The ratio of loyalty versus market domination does not however increase as linear function, but as an inflexion curve appearing between 45–55% market share domination. Below this critical mass in a particular market, the level of loyalty for a particular airline will be below its market penetration. Above critical mass, loyalty tracks above. As a measure of success in a particular market, an airline needs to move its level of loyalty above this expected curve.

Behaviour driven by corporate policy constraints is determined by the restrictiveness or level of compliance to corporate policy.

Airline corporate agreements provide incentives for the company to fly with a given airline, with the employees expected to follow corporate dictates. However, employees are adept at bypassing such corporate policy if personal incentives are not aligned, for instance where an employee is a member of another airline’s FFP scheme. In such circumstances, airlines cannot rely on the sole use of a corporate loyalty scheme and must simultaneously coordinate FFP awards.

Nevertheless, an airline needs to careful to weigh up the value of the FFP benefits awarded to employee of that corporation, given that the airline is giving away value twice.

Behaviour driven by customer attitudes is influenced by customers’ mindsets with regard to a particular carrier.

Distinct mindsets can be associated with customers' existing travel patterns: (1) those passengers which displayed an increase of travel on their airline, (2) those customers that displayed constant levels of travel and (3) those customers that displayed decreased levels of travel. Within each category the following customer traits have been identified:

• The rational evaluators (such as dissatisfied defectors) are those customers who evaluate the offer from a particular airline across a number of dimensions, such as brand, service, FFP awards, product, network, then based on the balance of these characteristics make their decision.
• The emotive evaluators are either evangelists for a carrier, or detractors. Their decision is based on a limited set of factors, rarely involving price, often involving perceived services. These customers would either go out of their way to travel with the carrier, or out of their way not to travel.
• Deliberate switchers are those fickle customers who switch loyalty based on price or reward offered, with little consideration for any other factor. They are the easiest to attract, but most difficult to retain.
• The inertial 'movers' are those customers that travel with a carrier based on easiest–path considerations, either because of corporate dictate or market captivity.

For each type of mindset, airlines need to target specific incentives. For example, those passengers who are rational evaluators in the increasing travel category would be motivated by an earlier tier upgrade because it is of perceived value, whereas an ineffective lever would be a telephone call with a 'We value your business' message. For those passengers who are in the dissatisfied defectors category, for instance because of the inability to redeem miles on desired routes, an effective lever would be a 'special' exemption to fly route and upgrade. An ineffective lever would be to offer double mileage.

Unfortunately, accurately pinpointing the underlying motivation of each customer’s behaviour remains elusive for the airline industry since insufficient data or analytical horsepower is applied.

3. Systematic CRM programs

Capturing customer value requires airlines to run systematic customer–centric campaigns focusing on sources of value, applying the levers and knowledge gained to positively impact customer behaviour:

Campaigns focused on re–attracting profitable customers apply incentives appropriate to addressing the cause of customers' defection.

The first determination needed is to verify whether the customer is still a potential passenger. Many customers 'defect' due to structural causes such as retirement, which means that no level of incentive would be sufficient to get the passenger to become a full–fare paying passenger again. Empirical evidence suggests this category of defection varies between 60 and 65% of the total reasons for defection.

For those 35–40% of customers who have switched loyalty, the effect of constraints and mindset changes needs to be specifically identified. These include:

• Service–related issues where the passenger has become disgruntled with the treatment received from airline staff or some similar service delivery failure;
• FFP–related issues, where a passenger becomes frustrated at the inability to redeem miles, or is 'unfairly' down–graded in tier status in one year, when previous travel patterns indicates an erratic nature of travel;
• Product–related issues such as a dislike for the airlines food, seats, video systems, lounges or a range of other product issues;
• Competitor offers, either in pricing or perceived superior service in a market in direct competition with the incumbent airline;
• Flight or schedule–related where insufficient service to a particular destination becomes problematic, for example where flight schedule requires a Saturday night departure to guarantee a Monday morning arrival; and
• Corporate–policy related issues, where a change in corporate policy dictates that a passenger flies with a rival airline as the airline of choice.

Data gathering and analysis is key to providing a first approximation of cause of defection. Based on probable causes, then a proactive out bound call campaign is a highly effective means of addressing this.

Campaigns focused on increasing wallet share target those customers who are flying with competitive airlines on competitive routes and have the ability to determine with whom they fly.

The first stage in this process is to positively identify which customers fit this category, through the use of new analytical tools and alternative sources of data. Two alternative approaches exist. The first is based the analysis of flight discontinuities, specifically one–way segments. Given that customers generally make return trips, pinpointing those passengers who have a profile of making one–way flights indicates potential wallet share loss. The second type of analysis is based on tracking frequent flyer points collected with car rental or hotel partners. In instances where a frequent flyer member starts collecting points away from home, and analysis of their travel patterns indicates that that passenger did not get to that destination with the airline, wallet share loss again exists.

Campaigns focused on reducing cost typically focus on those customers outside of the top tiers.

Airlines need to determine which services can be more effectively delivered through alternative means or even cut out completely without any perceived reduction in service. For instance, one airline identified significant cost savings if frequent flyers’ monthly status reports were emailed rather than posted. Savings of approximately $2 per member per month were achieved.

Prioritising the wide spectrum of CRM initiatives should be based on impact, thus ensuring those initiative with superior returns on investment are implemented first. These quick win 'high–impact, low–effort' CRM initiatives are important in that they delivers real value in a short time period, energises staff and provides momentum to tackling more complex initiatives. Examples of quick wins include:

• One airline offered those customers it had predicted were in danger of defection a special telephone hot–line for any queries or difficulties they were facing;
• Another airline that had identified that inadequate redemption was an issue for a customer segment, proactively provided redemption passes for those customers;
• One airline decided to proactively send apology letters for bad service to those elite tier members identified on flights delayed beyond normal parameters.

4. Operationalising CRM

Operationalising CRM in the airline business entails overcoming at least three significant barriers. Leadership and organisation: Senior management commitment is key to successfully implement CRM. This team needs to actively shape and reshape strategy, determine roles, allocate resource, and align incentives to ensure the optimised pursuit of customer activities across all airline functions.

Senior executives at those airlines in the early stages of CRM development are typically interested in the potential but sceptical about the value of CRM. These executives want the impact of CRM demonstrated before committing. However, these airlines are unfortunately in the weakest position to develop a credible business case to support CRM.

There is also the prevalent belief among at these airlines that no other airline is doing any better. Essentially these airlines do not know how much they do not know. Many CRM efforts stagnate due to misaligned organisational structures and incentives. Effective CRM roll–out requires departments impacted by CRM to have their performance measurements and incentives aligned with the goals of the initiative. For example, front line staff, who are traditionally incentivised on productivity, will now need to have their performance measures take into account client relationship impact.

Ill–defined strategy and capabilities: Detailed micro–segmentation beyond FFP tiers remains limited with the airline industry. Without such behavioural segments, effectively identifying high value customers, understanding the reasons for their behaviour and then directing high impact services will be not be successful.

To capture customer value, airlines need to run customer–focused, systematic campaigns.

Apart from the quick wins, many CRM initiatives have profound implication for an airline requiring an upgrade its capabilities to effectively deliver the service required.

For the airline industry, shifting from route support campaigns (i.e. traffic stimulation on particular city pair segments) to customer–centric requires an order of magnitude upgrade their capabilities. For instance, airline campaigns focused on supporting routes may be run typically one to three times a month, targeting say up to 50,000 customers each time, would now have to increase to between 30 and 100 campaigns a month, more accurately targeting a smaller number of customers, say 5,000. This poses new logistic and process challenges, in managing volume, analysing results and making modifications to subsequent campaigns to increase effectiveness. Legacy technology and inflexible operations: Effective CRM is supported by effective technology. Airlines, however, are hampered by diverse and outdated legacy systems that do not allow the easy collection, analysis and dissemination of customer information.

While stand–alone technology is now available to undertake the data mining, analysis and campaign management, airline still need to access customer data from the multiple separate databases. Addressing the limitations of the architectural design of the infrastructure requires will take many years to effect.

Why airlines need to get started now

It is imperative for airline to be aware of the importance of CRM and hence the implications of the airline’s competitive position.

Providing superior service to valuable customers will be key to ensuring levels of loyalty beyond any structural advantages or disadvantages in a particular market place.

Getting the basics right early on will be essential as the CRM is a philosophy that will take many years to full transform the airline

More importantly, first mover advantages do accrue to those airlines that master CRM ahead of others as re–attracting customers and increasing wallet share will be achieved at the expense of the competition.