The right way to manage customer churn for maximum profit

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It’s a sad fact of doing business: customers leave.

“You’d like to have 100 percent of customers stay 100 percent of the time,” says Harvard Business School Professor Sunil Gupta. “But that’s just not the case.” There can be plenty of reasons why a once-loyal customer jumps ship—maybe they were unhappy with customer service, or your prices went up, or a competitor offered a better deal.

But if a company lets too many customers show themselves the door, then they’ll waste too much of their time recruiting new customers.

“If 30 percent of your customers leave every year, then you have a leaky bucket and in a little over three years all your current customers might be gone,” says Gupta, the Edward W. Carter Professor of Business Administration at Harvard Business School.

For that reason, many companies have a program to actively manage customer churn, seeking out disgruntled customers and offering them incentives or deals to stay before they leave.

As Gupta describes in Managing Churn to Maximize Profits—a new paper forthcoming in Marketing Science—most companies are going about that process all wrong.

Double profit by retaining customers
Co-written with Aurelie Lemmens of the Rotterdam School of Management, the paper describes how companies can more than double profits from customer retention, without expending any additional money or effort.

The most obvious examples of managing churn are cell phone and cable companies, in which the customer relationship is contractual, and customers have to actively call to cancel service. But the lessons can be applied to many types of businesses.

“Churn happens everywhere,” Gupta says, giving the example of an online retailer who suddenly sees a monthly shopper stop buying for two months. “Customers just stop using the service but don’t have to tell the company.”

In order to manage churn, companies typically use machine learning technology to crunch data to determine which customers are most likely to leave, and target the ones at the top of the list with new offers, sales, or promotions. The problem with that, however, is that not all customers are created equal. As Gupta and Lemmens showed in an early version of their working paper, some customers are more profitable than others.

Focusing on retaining higher-spending customers, even if they aren’t as likely to leave, can increase the total profit a company can reap. As their research evolved, Gupta and Lemmens expanded this idea with another factor: which customers are more likely to respond to a retention offer. “Adding in responsiveness seems to have an even bigger impact on profitability,” Gupta says.

Don’t change customers, change algorithms
Applying both factors to data from a European television service company, for example, the researchers were able to theoretically increase profits by 180 percent.

“We were surprised,” Gupta says. “We didn’t expect the profit increase to be so large.”

Even more importantly, that increase can be obtained without more investment of resources by the company.

“Almost every company uses a churn model these days,” he says. “They have all the data they need. We are not suggesting they spend any more money or do any additional work. The only thing we are suggesting is that they change their algorithm.”
 

Michael Blanding is a writer based in Boston.