economics to quantify the impact of word of mouth

7/28/2019 Economics to Quantify the Impact of Word of Mouth

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Net Promoter

Economics:The Impact of

Word of Mouth

Exploring the Relationship Between Net Promoter and

By Vince Nowinski

Word of Mouth in the Wireless Industry

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To achieve financial success, companies must have a clear and effective growth strategy that is

well executed and improved upon over time. While simply stated, long term sustainable growth is

difficult to achieve. Many factors can impact financial performance, including the overall health of

the economy and the competitive landscape within a particular industryfactors which are often

unpredictable and nearly impossible to control. What companies can control and manage are their

internal strategies and processes. These factors include the quality of their goods and services,

the effectiveness and efficiency of their sales and marketing efforts, and the investment they make

to understand and increase the loyalty of their most strategic customers.

Many businesses embrace the concept of customer loyalty. However, most struggle to find an

easy, understandable way to measure loyalty and link it to meaningful financial outcomes, which

can impede efforts to invest in and optimize customer experience. The promise of customer

loyaltythat happy customers reward companies in ways that fuel growthhas been successfully

established at the industry level (e.g., Heskett, Sasser & Schlesinger, 1997; Ittner & Larcker, 1998;

Marsden & Upton, 2005; Reichheld, 2003). However, to date there has been little investigation ofhow specific customer behaviors contribute to larger financial outcomes like profitability and growth

at the company level.

In this paper, we will look at a specific industry segmenttelecommunications, business-to-

consumer wireless servicein an effort to better understand the link between customer loyalty and

customer behaviors which contribute to financial success. Specifically, we will examine customer

word of mouth (WOM) behaviorsthe naturally occurring tendency to share exceptionally positive

(or negative) brand experiences with othersand quantify its place in the larger economic picture

that links loyalty with growth.

Measuring Customer Loyalty Using Net Promoter

Co-developed by Satmetrix and Fred Reichheld, Net Promoter is a discipline that providescompanies a proven approach for measuring and improving customer loyalty. The Net Promoter

Score compares the number of Promoters (those who are highly likely to recommend a company

and/or its products) to the number of Detractors (those who are unlikely to recommend a

company and/or products) within an organizations customer universe, resulting in a single metric

that serves as an accurate indicator of customer loyalty and long-term growth.1

With its elegant simplicity and its growing body of supporting research, Net Promoter is quickly

gaining widespread industry adoption. Companies like Apple, General Electric, Charles Schwab,

Intuit and other world-class firms are embracing the concept of Net Promoter and have successfully

implemented Net Promoter programs within their organizations. This swell of industry uptake is

clearly articulated by Forrester Chairman and CEO, George F. Colony, who observes that Net

Promoter is becoming a driving force within organizations. (Forrester Marketing Forum, 2007)

The Economics of Net Promoter

Through ongoing research and application, the link between Net Promoter and financial success

continues to garner acceptance and credibility. But acknowledging this link and explaining it are

two different matters. To better understand the relationship between Net Promoter and financial

outcomes, Satmetrix has undertaken its own independent research examining the link between

customer loyalty and specific customer behaviors. Through this research, we are able to gain a

better understanding of just how Net Promoter functions as a predictor and driver of economic

success.

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The Net Promoter WOM Economic Framework presented in Figure 1-1 suggests why Net Promote

has proven to be such a powerful indicator of financial success. While it is based on a customers

stated likelihood to recommend a company to friends or colleagues, Net Promoter is not solely a

measure of referral behavior alone.

Figure 1-1. Net Promoter WOM Economic Framework

The foundation for the Net Promoter Score starts with the very first interaction a customer has with

a particular company and builds with each subsequent encounter. Collectively, these experiences

shape the degree of loyalty a customer feels towards the company. If a customer enjoys highly

positive experiences, he or she will feel more loyalthe most loyal customers are identified as

Promoters, the least, Detractors, and those in between as Passives.

Customer loyalty can manifest itself in multiple ways. For the purpose of our research, we focused

on the three behaviors most commonly linked with profitability and growth: buying, customer

tenure, and referral behaviors. Buyer economics capture the value of individual purchase

behaviors how much a customer spends with the company over a given period of time. Customer

tenure puts the static view ofbuyer economics into a long term perspective. Referral economics

capture the amount of new business that is gainedor lostas a function of the messages that

individual customers share via word of mouth. When customer experiences are positiveand

loyalty is highwe expect customers to spend more on average and to generate new business via

positive word of mouth. Conversely, when customer experience is poor and loyalty is low, we

expect lower purchasing value (perhaps even defection), as well as the potential loss of new

business through negative word of mouth.

The Net Promoter WOM Economic Framework helps to illustrate the utility of the Net Promoter

Score as an indicator of customer behaviors which have a critical impact on a companys current

and future business performance. While identifying Promoters and Detractors is useful in its own

right, it is important to understand how these customers impact the bottom line through their buying

and referral behaviors.

The remainder of this paper quantifies the relationship between Net Promoter and these customer

behaviors. We applied the Net Promoter WOM Economic Framework to the business-to-consumer

(B2C) wireless industry, linking Net Promoter to financial worth through the buying and referral

economics of Promoters and Detractors. As an illustration of the benefits of loyalty leadership, we

will highlight a significant success story within the industry, as well as offer a detailed discussion of

results and implications for real-life application.

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Methodology

Data Collection

The data used for this study was drawn from the Satmetrix Net Promoter Benchmark Database

an ongoing, opt-in benchmarking effort that collects primarily U.S.-based data for 2 markets, 4industries and 14 segments as shown in the list below:

Net Promoter Benchmark Database:

Markets

o Business to Business

o Business to Consumer

Industries

o Financial Services

o High Technology

o Interneto Telecommunications

Segments

o Financial Services Banking, Brokerage/Equities, Credit Card

o High Technology Hardware, Software/ASP, Networking and Peripherals

o Internet Ecommerce, Web Information Services, ISP

o Telecommunications General, Cable, Wireless, Local/Long Distance Phone,

Telecom Equipment Providers

Opt-in respondents self-select the industry and company they wish to rate. For example, a

customer might first elect to rate a company that provides telecommunication services, further

specify the wireless industry, and then choose to rate their Verizon service (or another service they

subscribe to) specifically. Key metrics include Net Promoter, other industry standard loyalty

measures, self-reported spend and referral behaviors, as well as various company performance

attributes, such as satisfaction with overall product, value, reputation, and ease of doing business.

Consisting of almost 285,000 responses collected over a period of seven years, the Net Promoter

Benchmark Database is a rich data source that provides industry reporting and analysis within a

competitive context.

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Analysis

Using the Net Promoter methodology, we first identified and segmented respondents into Promoter

and Detractor categories based on their likelihood to recommend. We then set out to quantify the

worth of Promoters and Detractors alike by isolating the contribution of buyer and referral

economics to total customer worth for each.

Using self-reported data, we calculated the buyer economics of Promoters and Detractors based

on their average annual spend amounts. As shown in Figure 2-1, our first hypothesis is that

Promoters will tend to spend more, whereas Detractors will tend to spend less relative to the

average customer. While this may not be universally truethe nature of the business and pricing

structure may constrain incremental purchasing differences in some businesseswe would expect

a difference where customers are freer to express their loyalty with their wallet.

Figure 2-1. Calculating Total Customer Worth

We also hypothesize that the total customer worth of Promoters will be augmented by new

business generated through their positive referral behaviorsan indirect, but nonetheless real

impact of strong customer loyalty. Conversely, we expect that the total worth of Detractors will drop

due to lost opportunity costs resulting from their negative referral behaviors.

To estimate the referral economics of Promoters, we first multiplied the percentage of Promoters

who had made a positive referral in the past 12 months by the average number of positive referrals

made. We then multiplied this product by an overall conversion rate to arrive at the number of

customers generated per Promoter.2 Once we calculated the number of customers acquired per

Promoter, we multiplied this estimate by the average spend across all customers to arrive at the

dollar impact of positive referrals.

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Figure 2-2. Calculating Referral Economics for Promoters

We used a similar approach for calculating the referral economics of Detractors. Obtaining the

conversion rate for Detractors, however, required an additional inference, as it is not possible to

determine the actual number of customers who would be current customers of a vendor save for

the impact of negative word of mouth. To estimate that conversion rate, i.e., the number ofpotential customers exposed to negative word of mouth who seek other providers as a result, we

reviewed the available literature regarding the impact of negative word of mouth. Based on this

literature review and the findings of several industry studies, we operationalized the negative

conversion rate as 4 times that of our calculated positive conversion rate.3

Figure 2-3. Calculating Referral Economics for Detractors

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Results: Wireless Service Providers

Industry Overview

The wireless industry is one segment within the larger telecommunications services industry. The

wireless industry, which is relatively new, experienced phenomenal growth during the tech boom of

the 1990s. Initially the industry was comprised of numerous providers; today four major providers

dominate the field (AT&T, Alltel (recently acquired by Verizon), Sprint-Nextel, T-Mobile, and

Verizon).

The driving force within the wireless industry is technological innovation, with new devices and

features released at a rapid pace. The range of services offered by wireless providers has likewise

expanded, from telephone connectivity to services such as text messaging, web browsing, and

satellite assisted navigation. Most wireless providers use promotional offers and subsidies on

devices to motivate customers to join, making customer acquisition a costly endeavor. This cost is

compounded by the fact that wireless devices have become a ubiquitous technology in the U.S.;

customer acquisition is primarily accomplished by enticing customers away from a competing

provider.

The overall growth rate of the wireless industry has slowed in recent years. Its growth is impacted

by the state of the overall economy and the availability of new customers. Given that all companies

in this space must deal with these macroeconomic forces, the extent to which a wireless provider is

successful relative to its competitors depends on how successfully it can maximize customer

spending and tenure. This last factor cannot be understated; wireless providers must spend about

$300, on average, to acquire a new customer. That figure stands in stark contrast to the $25 it

costs, on average, to retain a customer (Brown, 2004; Bolton & Bronkhorst, 1995). Retention (and

its enemy, customer churn) is therefore keythough industry providers been slow to see customer

loyalty and choice, rather than coercive tactics, as the means to achieve it.

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Net Promoter Performance

The Net Promoter score for the overall wireless provider industry in 2007 was 14%. While thistrails other segments weve examinednotably computer hardware manufacturers at 27%overallit represents a steady and meaningful improvement for the industry, particularly relative toits historic low of 5% in 2005.

Promoters account for 41% of the sample, with 32% passives, and 27% Detractors. Relative to thebroader telecommunications industry (which includes cable, wireless, fixed local and long distancetelephone, and telecommunications equipment providers), wireless providers have a significantlyhigher NPS, and more exaggerated shifts in NPS year to year. The direction of changes trends tothe industry as a whole.

Figure 3-1. Net Promoter Performance

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Net Promoter and Buyer Economics

In contrast to other industries we have examined, average spend amounts were not differentiatedby Net Promoter segment. Customers reported spending an average of $1,144 with their wirelessproviders in the past year, and this approximate amount holds true whether the customers are

Promoters, Passives, or Detractors.4

Figure 3-2. Purchase Value of Promoters and Detractors

Why is the wireless industry an exception to the general trend that spend increases with loyalty?One strong possibility is the nature of wireless plans, which are highly commoditized and

competitively priced across providers. Unlike other types of goods and services, there may be lessopportunity for loyal customers to spend incrementally moreconsumers exert the most controlover spend when selecting or upgrading phones and service plans, events which are relativelyinfrequent. Within the wireless industry, customers usually agree on a monthly fee; this monthlyfee grants customers access to the wireless network for a given amount of time, provides access tosend and receive a given quantity of text data, etc. The monthly fee and subsequent level ofservice is agreed upon at the inception of the customer-provider relationship.

For this reason, the key to loyalty is likely to be value for dollars spent once a selection has beenmade, which creates the possibility that salient features of wireless service pricing which can createadditional revenue value per customere.g., overage fees, service fees, and additional contentcharges for text messaging, web and data accessmay actually erode the customer relationshipover time. Any unexpected or abnormal additional fees for wireless service most likely elicitcustomer annoyance or frustration because additional charges are usually incurred by customersfor necessary reasons (e.g., calling home while out of network). This stands in stark contrast to the

traditional customer loyalty model, which predicts that loyal customers will choose to spend more.

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Net Promoter and Customer Retention

The lack of relationship between self-reported spend and Net Promoter category does not implythat customer loyalty has no revenue impact for wireless service providers. Indeed, whenreviewing customers reports of their tenure with their current provider, we see a clear link to

loyalty. Tenureparticularly susceptibility to customer attrition (churn)is a key financial indicatorfor wireless providers. As the wireless market reaches saturation, it becomes more expensive toattract new customers, as doing so typically entails luring customers away from the competitionthrough financial incentives. Given the cost of attracting new customers, it is becomingincreasingly important for wireless providers to maximize customer retention in order to keep theirbusinesses profitable.

Figure 3-3 Tenure of Promoters and Detractors

Buyer Economics and Churn

Over 80% of the US population now subscribes to wireless providersadoption of cellulartechnology has been so vast that the pool of prospective new subscribers is rapidly diminishing.Given that close to 90% of the available market is shared by 4 national carriers (AT&T, Alltel(recently acquired by Verizon), Sprint-Nextel, T-Mobile and Verizon), competition among carriers isintense and traditional acquisition costs are skyrocketing. Market share is acquired directly inproportion to the customers that these providers can wrest from one another (the Yankee groupestimates that 84% of new subscribers will come from other providers by 2010, up fromapproximately 70% today). As a consequence, wireless providers are particularly attuned tochurnthe proportion of their subscribed base that they stand to lose at any given time, as well asthe opportunities that exist to poach subscribers from their competitors. Customer loyaltywhich

can reduce the likelihood of churn relative to ones competitorsbecomes a key factor in ongoingfinancial success.

According to company reports, monthly churn rates for the industry tend to average between oneand three percent. While these numbers appear relatively small, reducing churn by even a fractionof a percent can have a huge impact on a companys bottom line. To illustrate this point we willcompare two example companies, one with a churn rate of 2.5%, another with a churn rate of 1%.

Consider the wireless provider with an average monthly churn rate of 2.5%. This figure yields an(unadjusted) overall annual churn of 30%. Assume now that a company currently has 20 millionsubscribers. An annual churn of 30% would result in a loss of six million subscribers a year. Withan average revenue per unit (ARPU) of $50 per month for the industry, a loss of six

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million customers amounts to a revenue loss of $3B each yearwith the vast majority of thesedefections adding to the bottom line for ones competitors.

Lets compare these figures to our provider with a 1% churn rate. A monthly churn rate of 1%yields an (unadjusted) overall annual churn of 12%. Again, assuming a subscriber base of 20million and an ARPU of $50 per month, an annual churn of 12% would amount to a loss of 2.4

million subscribers a year, translating into a revenue loss of $1.4B/year, less than half that of ourother company.

This is to say nothing of the potential differences in acquisition costs, which tend to be considerablymore expensive than resources expended to renew an existing customer. In our example, theprovider with an average monthly churn rate of 2.5% will see its entire customer base turn over in40 monthsless than 4 years. To maintain its subscriber size, it must vigorously expendresources to acquire new customers relative to its competitor, which would enjoy nearly twice theaverage tenure across its customer base (more than eight years).

Given the nature of the wireless industry, it is interesting to find that Net Promoter segments aredifferentiated according to their average tenure. While the ensuing model does not capture thissignificant financial advantageto do so, we would consider a model that extends over the lifetimeof the customerit is in all likelihood a more significant advantage for loyalty leaders in thisindustry than potential differences in incremental spend. As such, we will return to a discussion of

churn and its relationship to NPS in our examination of specific company performance.

Net Promoter and Referral Economics

While reported spend did not differ by Net Promoter category, it is a strong predictor of referralbehavior. Three fourths of Promoters report having positively referred their wireless provider to afriend or colleague in the previous 12 months. Whats more, Promoters share these positivesentiments with over 3 others on average during that time.

Detractors, by contrast, share their negative experiences less frequently. Approximately one thirdof these unhappy customers actively attempt to dissuade others from doing business with theirchosen vendor, less than one half the rate at which Promoters make positive referrals. On theother hand, when they do negatively refer, Detractors are likely to cast a wider net than theirPromoter counterpartssharing their negative experiences with 4.33 others compared to

Promoters 3.24 referrals.5

Based on our findings, we were able to calculate an average referral value for both Promoters andDetractors, which then enabled us to compute the total customer worth for each group.

As seen in Figure 3-4-1 below, the referral value garnered for each Promoters positive word ofmouth amounts to just over half an additional customer. In other words, given the rate andfrequency with which Promoters spread positive word-of-mouth, 2 Promoters have the ability tobring in approximately 1 new customer a year.

Figure 3-4-1. Promoter Referral Value

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As seen in Figure 3-4-2, the referral value for each Detractor amounts to a loss of 1.28 potentialnew customers.

6In other words, given the rate and frequency with which Detractors spread

negative word-of-mouth, a single Detractor will negate not only their own financial value to thevendor, but actually represent a net cost of an additional .28 of the average customer. Whilerelatively less frequent than positive referrals, the potency of negative referrals helps to underscorethe damage that Detractors can inflict.

7

Figure 3-4-2. Detractor Referral Value

Net Promoter and Total Customer Worth

Combining the buyer and referral economics associated with Promoters and Detractors allows usto create a much clearer picture of their financial impact for wireless providers. Over time,Promoters primary economic value is both directowing to the additional revenues gained fromtheir extended customer tenureand indirect, securing additional revenue through positive word ofmouth. In our static model, the indirect benefit predominates. Based on the reported averagespend across customers, we estimate the actual revenue value of Promoters to be over $1,700.

Detractors are an interesting comparison given that their spending behavior does not differmeaningfully from Promoters. While Detractor churn presents a very real concern for wirelessproviders, their negative word of mouth is an additional hidden cost. Lost business associated withnegative referrals subtracts the entire value of Detractor spend and then some, creating a net costfor these individuals of just over $300. Compared with Promoters, Detractors total customer worthis $2,000 less on average. Note that this disparity is likely to worsen once acquisition and supportcosts are factored in, making Detractors an even more significant net drain on the bottom line.

Figure 3-5. Purchase Value +Referral Value =Total Customer Worth

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Spotlight: Verizon vs. Sprint-Nextel

Looking within the wireless service segment, we can see clear differences in customer loyalty overtime. Verizon is and has been the loyalty leader within the segment, with T-Mobile as its most

meaningful rival over the years. Verizon scores have shown relatively little volatility, with a gradualincrease from 2003-2005 before reaching a plateau in 2006.

AT&T Cingular (scores prior to 2005 for the two companies have been combined to reflect thesubsequent merger) and Alltel represent the second tier in terms of customer experience, withslightly positive Net Promoter scores in 2007. Sprint-Nextel is the most interesting case study.From 2003-2005, its customers expressed similar sentiments to other tier 2 providers, followed by aprecipitous drop in 2005. Since that time, Sprint-Nextel has consistently trailed its competition interms of Net Promoter score.

Figure 4-1: Top 5 Wireless Providers - A Competitive View

Verizon vs. Sprint-Nextel: Net Promoter Performance

With an NPS of 25% compared to that of -18% (see Figure 4-2), the loyalty felt by Verizoncustomers exceeds that of Sprint-Nextel customers by a sizable margin. Given that the percentageof Passives within each company is fairly similar (averaging approximately 30%); the realdifferentiation between the two is a function of their respective Promoter-to-Detractor ratios.

While Verizon has always outperformed Sprint-Nextel, Sprint-Nextels performance worsenedsubstantially after 2005, the year Sprint closed its $35B purchase of Nextel. The NPS trend issomewhat misleading, as the 2003-2005 scores are buoyed by feedback from Nextel subscribers(scores prior to 2005 were combined to reflect the subsequent merger). In general, prior to the

merger, Nextel enjoyed positive Net Promoter scores, whereas Sprint consistently suffered fromnegative scores. After the merger, former Nextel customers came to adopt the same poorperceptions held by traditional Sprint subscribers. The complexities of the merger, the ongoingmaintenance of 2 incompatible networks, and the support and service missteps (Sprint-Nextel hasrepeatedly ranked at the bottom of the J D Power assessments of customer care) combined to taketheir toll on customer loyalty.

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Figure 4-2 Verizon vs. Sprint-Nextel: Net Promoter Performance

Verizon vs. Sprint-Nextel: Buyer Economics

Unlike other industries, the NPS loyalty categories did not predict differential spending amongwireless subscribers. This general trend held true for our two spotlight providers; Promoter spendwas quite similar to that of the average customer, while Detractor spend was slightly higher thanthe average. While these differences are slightwithin $200 for each providerthe findingscorroborate the notion that loyalty does not strongly predict incremental spend in this industry. Ifanything, customers who spend more on average may be keenly aware of their price disadvantage,and are therefore likely to be less enthusiastic about their providers.

In this respect, loyalty leadership confers little advantage upon Verizon save for a slightly higher

average spend, even as compared to Sprint-Nextel, whose NPS ranked at the bottom of theproviders compared.

Figure 4-3 Verizon vs. Sprint-Nextel: Net Promoter Buyer Economics

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Verizon vs. Sprint-Nextel: Customer Retention

That is not to say that loyalty leadership confers no economic benefit to Verizon where buyingbehaviors are concerned. As mentioned earlier, the relationship between loyalty and spend maybe more constructively viewed in terms of the potential loss of existing revenue due to customerdefection (churn). The notion that NPS and churn are related is supported by the differences wefound with regard to self-reported tenure (see Figure 3-3 above). However, we were interested to

see if we could find additional evidence for the relationship between the two.

To build this model, we combined the annual NPS scores for each company from our Net Promotedatabase with the average churn figures available in their 10k filing reports. Since NPS and churnmay both move upward or downward as a function of sound or unsound business decisions orexecution in any given year, we took the additional step of lagging churn rates by one year relativeto the NPS score. In this fashion, NPS is positioned as a leading indicator of churnwe wouldexpect churn to be higher following those years where NPS is low. Figures 4.4 and 4.5 display therelationship between the two companies NPS scores and subsequent customer churn ratesreported by Verizon and Sprint-Nextel.

Figure 4-4 Verizon NPS and customer churn

Figure 4-5 Sprint-Nextel NPS and customer churn

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In addition to setting the bar in terms of NPS score, Verizon enjoys a best in class rate of customerchurn (averaging a 1.3% churn) while Sprint-Nextel suffers from exceptionally high customer churn(averaging 2.6%) for the period examined. More importantly, both companies show a pattern thatindicates a negative correlation between loyalty and churn. When NPS increases, churn figures forthe following year decrease; when it decreases, churn goes up. As even a .1% change in churncan represent millions of dollars in revenue, the relationship suggests that wireless providers would

be wise to actively monitor and manage the loyalty of their customer base. This strategy stands instark contrast to the typical emphasis within the industry, which focuses on technological innovationand incentives for new customer acquisition.

Verizon vs. Sprint-Nextel: Referral Economics

Within the wireless segment, Net Promoter is a strong indicator of referral behavior. Verizon has anumbers advantage, with a larger overall subscriber base and a higher proportion of Promoters,which translates into more positive word of mouth working on behalf of Verizon. Whats more,Verizon enjoys a more active Promoter community; 78% of Verizons Promoters report actuallyhaving referred one or more other individuals in the past 12 months, compared to 64% for Sprint-Nextel. This is a trend we see with loyalty leaders in other industries as well (e.g., see ApplesPromoter advantage in the Computer Hardware white paper: Net Promoter Economics: TheImpact of Word of Mouth).

As seen in Figure 4-6 below, we estimate that the referral value for each Verizon Promoter yields.61 of a new customer as compared to .52 for Sprint-Nextel (see figure 4-7), owing primarily to thehigher Promoter referral rates for Verizon.

Figure 4-6. Verizon: Promoter Referral Economics

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Figure 4-7. Sprint-Nextel: P romoter Referral Economics

While Verizon enjoys a distinct advantage over Sprint-Nextel in positive word of mouth, the realdifferentiator in resulting customer worth derives from the smaller proportion of Detractors withinVerizons customer community. At 21%, Verizon has less than half the proportion of Detractors asSprint-Nextel. Whats more, Verizons Detractors are less likely to negatively refer to friends orcolleagues than their counterparts at Sprint-Nextel. As seen in figure 4-8, a little less than a third ofVerizon Detractors actively dissuade others from considering the companyquite typical ofDetractor behavior we see across industries (see Satmetrix white papers Net PromoterEconomics: The Impact of Word of Mouthand Exploring the Relationship Between Net Promoterand Word of Mouth in the Credit Card Industry). By comparison, nearly half of Sprint-NextelsDetractors actively try to dissuade others from doing business with the company (see figure 4-9).As a consequence, Verizon loses roughly one potential new customer for each Detractor within itscustomer base (a 1:1 ratio), while each Sprint-Nextel Detractor costs that company two newcustomers (a 1:2 ratio).

Figure 4-8. Verizon: Detractor Referral Economics

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Figure 4-9. Sprint-Nextel: Detractor Referral Economics

The reason for the discrepancy in negative word of mouth among Detractors from these companiesis unclear. Compared to other companies and industries, Sprint-Nextels Detractors are unusuallyactive in sharing negative word of mouth. As such, the difference we observe here owes less toVerizons loyalty leader status than the strong dissatisfaction felt by Sprint-Nextel Detractors, whowish to insure that others do not follow in their footsteps. A secondary analysis of the Likelihood torecommend question supports this assessment of deep dissatisfaction: 23% of Sprint-NextelDetractors chose a value of zero on the 0-10 likelihood to recommend scale, as compared to only9% of Verizon Detractors. Sprint-Nextel is somehow creating a much larger proportion ofcustomers who are not at all likely to recommend their wireless service. The large proportion offrustrated customers helps to explain the disproportionally large amount of negative word of mouthgenerated by Sprint-Nextel Detractors.

Verizon vs. Sprint-Nextel: Total Customer Worth

While the total customer worth of Verizons Promoters exceeds that of Sprint-Nextels by roughly$230, it is Verizons advantage with regard to the negative impact of Detractors (i.e. churn andnegative referrals) that constitutes its most substantial competitive and financial advantage relativeto Sprint-Nextel. The total cost of Sprint-Nextels Detractors amounts to 1.3 times that of theirVerizon counterparts. Given that Sprint-Nextel has twice the number of Detractors as Verizon, thisdoes not bode well for its future financial success.

Figure 4-10. Verizon vs. Sprint-Nextel: Purchase Value +Referral Value =Total Customer Worth

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What Drives Loyalty in the Wireless Industry?

So how can companies within the wireless segment best win the hearts and minds of theircustomers? Within the Satmetrix Net Promoter database, there are a number of satisfactionquestions specific to the telecommunications arena that helps us to clarify that issue. For thepurposes of this analysis, we assessed strength of associationcorrelating specific satisfactionattributes with likelihood to recommendto identify the top drivers.

What we found is that the top loyalty drivers (as defined by a correlation coefficient of .60 or above)for wireless customers are satisfaction with overall product, reliability, overall value, ease of doingbusiness and customer service/support. In Figure 4-11, we present the performance of Verizon andSprint-Nextel on these critical dimensions.

Figure 4-11. Verizon vs. Sprint-Nextel Performance on Top Industry Drivers

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Here, as with the overall NPS score, Verizon acquits itself well, outperforming Sprint-Nextel oneach of these customer priorities. Verizons advantage is particularly noteworthy on reliability,averaging over a full scale point higher than Sprint-Nextel. Following reliability, Verizonoutperforms Sprint-Nextel on customer service/support, ease of doing business and overallproduct, with overall value being the smallest differentiator between the 2 companies.

Verizon vs. Sprint-Nextel: Business Strategy and PracticesWhat aspects of Verizons business strategy help to explain its performance advantage in thesekey areas? The target market for these companies is the same, with the same basic set of needs.As such, the difference between the two companies is primarily one of business strategy andexecution, and the role that customer experience and loyalty play in each. As it happens, the keydrivers of success identified aboveincluding reliability, value, and customer servicealign verywell with key features of Verizons business philosophy, including:

Network ReliabilityWhat keeps Verizon on top? Quite simply, customers know Verizon as Americas most reliablenetwork. The company has kept its value proposition simple and direct, emphasizing the reliabilityof its network and infrastructure, and the benefits these bring to the customer. To insure that thesemarketing messages are aligned with customers actual experience, Verizon has made steadyinvestments and updates to its networks. In 2007 alone, Verizon invested $6 billion dollars in apartnership with Alcatel-Lucent to upgrade its network. The result of these efforts has providedVerizon with a significant advantage over its field of competitors (its satisfaction averaging half ascale point higher for this key driver of customer loyalty). In 2008, Verizon looks to be solidifying itsadvantage in this area, acquiring Alltel in a move that expands its network to areas of the UnitedStates where Verizon was not previously represented, and simultaneously absorbing the onlycompetitor whose network reliability score (at 8.05) rivaled Verizons (at 8.0).

The reputation that Verizons network enjoys stands in stark relief to Sprint-Nextel, whose networkreliability has been highlighted repeatedly as a major concern by its customers (trailing allcompetitors in our data by a significant margin with an average score of 6.8). Following its 2005merger with Nextel, Sprint attempted to handle the increased capacity brought on by Nextelcustomers with a poor compression technology that packed more users on the network but resultedin substandard call quality. Other network issues adversely affecting the network surrounded its800 Mhz spectrum band, which interfered with first responder communications (e.g., transmissions

between fire, ambulance, police). While Sprint-Nextel has invested in its networknotably incapabilities for data transfer, as reflected in the industry-leading bandwidth available through itsadvanced EVDO networkconnectivity and other basic network quality issues have preventedSprint-Nextel from capitalizing on their efforts with customers.

Overall ValueDespite the emphasis on cutting-edge technology within the wireless provider industry, cost andvalue continue to be the most important factors weighed by customers when choosing a newprovider. Overall value is best conceived as a balance between what customers actually pay andwhat they receive in terms of quality of service. In comparing Verizon and Sprint-Nextel, weobserve average annual spend data that is essentially the same between the two providers, whilethe average satisfaction ratings forkey customer concerns consistently favor Verizon.

The figures reported here rely on the customer to estimate their spend over the course of a year. Acustomers estimate is less likely to reflect those unexpected fees which are only incurred

infrequently. A more reliable measure of the cost of wireless service can be attained fromexamining each companys financial reports. ARPU (average monthly) for Sprint-Nextel in 2005,2006, and 2007 was $62.50, 61.25, and 59.00, respectively (taken as the average of four quarterseach year as reported in Sprints annual report). ARPU for Verizon in 2005, 2006, and 2007 was$50.11, $50.44, and $51.57, respectively.

In this regard, customer cost between the two providers is negligible (using our self-reported spenddata), or actually in favor of Verizon (using ARPU). As a result, word of mouth about these twocompanies is likely to favor Verizon uniformly in terms of value proposition; their cost iscommensurate or superior to Sprint-Nextel, and they enjoy a consistent and noteworthy advantagein every important measure of customer experience. Verizon has never positioned

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itself as a low price leaderthis is one area where they clearly do not lead the industrybut onbalance, Verizon customers are satisfied enough with the value they receive to provide thecompany with one of the lowest churn rates in the industry. In fact, as the data presented heremake clear, Verizon has been able to drive down churn while gradually increasing ARPU,something which is possible only with a compelling value proposition.

Customers First

Verizon emphasizes the importance of customer experience throughout its business. Within itsindustry, it has been a frequent early-adopter of changes to policy and practice which positivelyimpact long-term customer loyalty. In 1999, Verizon implemented its Churn Reduction TaskForce, a customer-focused initiative charged with reducing the number of customers choosing toterminate their service. Members of Verizons Churn Reduction Task Force were given training tohelp them to handle customers personal and practical needs, learn the key principles of retention,deal with the stress from upset customers, and understand and overcome obstacles to customerretention. Internal efforts to identify and remediate customer issues helped to increase customersatisfaction and decrease customer churn.

In recent years, Verizon has embraced NPS as part of its corporate culture, using it as amechanism not simply to identify and assist unhappy customers, but as an opportunity to identifyroot causes of loyalty and satisfaction. Resulting changes in policyfrom eliminating automaticcontract extensions when there is any change in a customers price plan (even increases inspending), to diminishing early termination fees on a prorated basis over timehave introduced

more customer-friendly policies to the rest of the industry. The wireless industry has a long historyof using tactics to reduce churn that actually erode customer loyalty, coercing customers with fees,financial penalties, and efforts to extend their contract length. Verizon is proving that whencustomers are satisfied, they elect to stay, which in turn eliminates the need to corral them intolong-term contracts at any cost.

The adoption of NPS has also proved to be a positive force in driving and reinforcing customer-friendly practices among Verizons customer service representatives. Local, grass-roots efforts useNPS to recognize employees who have delivered exceptional customer service. In turn, frontlineemployees have come to embrace NPS, seeing Detractors as Promoters-in-waiting, anopportunity for turnaround and potential source of pride. The impact on service satisfaction hasbeen positive, helping to move Verizon ahead of its competitors in external evaluations of industrypractices.

There are signs that Sprint-Nextel has taken notice of the importance of customer loyalty. The

company is taking proactive steps to improve its customer service and commitment, which havelagged its competitors consistently over the years. For instance, recently appointed CEO DanHesse has positioned customer service as a top priority in attracting and retaining customers.Sprint-Nextel has begun to invest in customer care initiatives and to reverse previous managementpractices in customer call centers. One result has been Sprints Ready Now program, which trainsSprint-Nextel associates on how to fully explain devices and services to customers. These andother initiatives have helped to dramatically improve Sprint-Nextels standing in customer care andservice according to external evaluations of the industry. Time will tell if this new level of customercommitment is permanent, and whether it is sufficient to increase customer loyalty and turn the tideof customer attrition for Sprint-Nextel.

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How can Net Promoter Help Your Business?

Our investigation of the relationship between the Net Promoter Score and customer worth withinthe B2C wireless industry reveals a robust relationship between Net Promoter and overall custome

value. On this basis, the Net Promoter WOM Framework can serve as a proxyand a predictorof how the mix of Promoters and Detractors within your customer base is impacting your business,and how successful strategies for increasing your customers loyalty can impact your bottom line.

It is important to remember that knowing your Net Promoter Score is only the first stepthe metricitself is not the answer. To be successful, companies need to understand what actions they cantake increase Promoters, decrease Detractors, and to move all customers up the loyalty chain.Once you determine what actions to put in place to effect this changeand take the steps toempower employees across the enterprise to execute against these directivesyou will start to seean impact on loyalty and growth.

And this is only the beginning of the journey. As companies learn to listen more effectively to theircustomers, and to act on their behalf, they will discover other opportunities to strengthen the bondsthey share. The data reviewed here hints at one such opportunity in its examination of the power oword of mouth. Given the enormous influence that word of mouth messaging has on brandevaluation and purchase decisions, a companys Promoters represent a significantand oftenuntappedasset. Identifying ways to leverage Promotersthrough reference programs, byproviding tools that facilitate their naturally occurring word of mouth behaviors, by amplifying theirmessages through community and social mediais a logical and promising next step in theevolution of how companies can benefit from Net Promoter.

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Endnotes1 The Net Promoter metric is based on one simple question: Would you recommend us to a friendor colleague? The scale employed is an 11 point (0-10) likelihood scale. To calculate the NetPromoter Score, take the percentage of customers who are Promoters (defined as scores of 9 or10) and subtract the percentage who are Detractors (defined as scores of 0 through 6).

2To obtain the conversion rate, we asked each respondent within the entire sample if theythemselves had been referred to their provider by a friend or colleague. We summed the numberof customers who had been referred to their provider and divided it by the total number of positivereferrals issued. The resulting ratio estimates the impact of positive referrals.

3There is a rich psychological and socioeconomic literature regarding the relative weight assignedto positive and negative information. The basic findingthat negative information seems to exert adisproportionate influence relative to positive informationhas been replicated many times overboth for interpersonal judgments (e.g., Anderson, 1965) as well as for how consumers evaluatebrands and make purchase decisions (e.g., Arndt, 1967; Weinberger & Dillon, 1980; Weinberger,Allen, Dillon (1981); Mizerski, 1982; Wilson & Peterson (1989); Herr, Kardes, & Kim (1991); East,2002)). Unfortunately, while many studies support the notion that negative word of mouth is moreinfluential than positive word of mouth, few have tried to quantify the difference. One seminalfinding comes from Kroloff (1988), whose influential Merriam formula was derived fromobservations that individuals tend to give negative information approximately four times the weightof positive information. Other researchers have noted that a single negative behavior canneutralize as many as five positive behaviors (Richey, Koenigs, Richey and Forgin, 1975). In astudy of Dell customers, Fred Reichheld and Satmetrix found that, on average, customers reportthat a single negative comment can offset five positive ones. Based on these studies, it isreasonable to expect negative word of mouth to exert 4-5 times the influence of positive word ofmouth. In the present study, we chose the more conservative weighting, assigning negativereferrals four times the weight of positive ones.

4 Within the wireless industry, customer spend is typically tracked in the form of ARPU, or averagerevenue per user. According to recent estimates, industry ARPU stands at roughly $50/month, orapproximately $600/yr. While this amount may appear significantly lower than our average of$1,144, ARPU does not take into account multiple users within a single paying household. Familyplanswhich have grown increasingly prevalent within the industrymay affect the average spend

reported here (i.e., individuals may be reporting their annual household spend as the plan owner).As well, the opt-in approach may encourage greater participation among those consumers whoserelationship with their provider is top-of-mind; including those with larger plans, who have recentlybought a new wireless handset, or those who are more active consumers of add-on services likeringtones, data services, and web and video serviceswhich may tend to push the average spendhigher relative to industry measures.

5 While these differences between positive and negative word of mouth may seem surprising, ourfindings regarding negative referral behaviors are corroborated by other research. For example,East (2002, ANZMAC proceedings) found that while negative referrals are relatively less commonthan positive ones, those that do share their negative experiences speak to roughly the samenumber of people as those making positive referrals. Similarly, in a study conducted by VerdeGroup and Wharton, researchers found that about 30% of customers tell one or more friends abouttheir negative experiences and that on average, customers tell 4 people about their negativeexperience. Similarly, Marsden (2005) found that negative referral rates averaged between 20% to

27% across all UK retail businesses examined (mobile networks, retail banks, supermarkets, cars),while Richins (1983) found that those experiencing dissatisfaction told an average of about 5 otherpersons (3 family members and 2 coworkers or acquaintances).

6To obtain the positive conversion rate used in our calculation, we asked each respondent within

the entire sample if they themselves had been referred to their provider by a friend or colleague.We summed up the number of customers who had been referred to their provider and divided it bythe total number of positive referrals issued. On this basis, we estimated that for every four positivereferrals made on behalf of wireless providers, approximately one new customer is gained aconversion rate of 23%.To obtain the negative conversion rate used in our calculation, we multiplied the positiveconversion rate of 23% by a magnitude of 4, yielding 92%. While this figure may seem large, the

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external literature regarding the disproportionate impact of negative information (see endnote 3above) corroborates our method. In contrast to two other industries weve examinedcomputerhardware and consumer credit cardsthe negative conversion rate is higher than what is typical.As well, it exceeds one of the few available external benchmarksa finding by the Verde Groupand the Baker Retailing Initiative at the Wharton School of Business that 64% of retail customerswill choose to shop elsewhere if they are the recipients of negative word of mouth about a particularvendor.

7 In this instance, the reason for the difference is not due to the pattern of referral behaviorsdisplayed by Promoters and Detractorsgenerally speaking, the frequency and reach of theircommunications is similar to what we have found for other industries. Rather, the difference isdriven by two factors: the relatively large proportion of wireless customers who report that theywere referred to their current provider (approximately 35%) and the relatively few positive referrals(driven primarily by Promoter behavior, at 3.24 referrals per Promoter) required to obtain such ahigh rate of new business. Put simply, wireless service appears to be an industry where potentialcustomers are particularly attuned to the opinions of others.

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References

Anderson, N. H. (1965). Averaging versus adding as a stimulus-combination rule in impressionformation. Journal of Personality and Social Psychology, 2, 1-9.

Arndt, J . (1967). Perceived Risk, Sociometric Integration, and Word-of-Mouth in the Adoption of aNew Food Product. In Cox, D. (Ed.) Risk Taking and Information Handling in Consumer Behavior(pp. 289-316). Boston: Graduate School of Business Administration, Harvard University.

Brown, K. (2004). Holding onto customers. Wireless Week, 15, 6.

Bolton, R. N., & Bronkhorst, T. M. (1995). The relationship between customer complaints to the firmand subsequent exit behavior. Advances in Consumer Research, 22(1), 94100.

East, R. & Olmo Riley, F. D. (2002). Positive and negative word-of-mouth influence. Kingston

University paper presented at Australian and New Zealand Marketing Academy Conference.

Forrester (2007). Forrester's Marketing Forum: Reinventing Customer Centricity. April 11-12 Miami,FL.

Galor, O. & Zeira, J . (1993). Income Distribution and Macroeconomics. The Review of EconomicStudies, 60, 35-52.

Herr, P. M., Kardes, F. R. & Kim, J . (1991). Effects of word of mouth and product-attributeinformation on persuasion: An accessibility-diagnosticity perspective. Journal of ConsumerResearch, 17, 454-62.

Heskett, J . L., Sasser, W. E., & Schlesinger L. A. (1997). The Service Profit Chain: How LeadingCompanies Link Profit and Growth to Loyalty, Satisfaction, and Value. Simon and Schuster: NewYork.

Heskett, J . L., J ones, T. O., Loveman, G. W., Sasser, W. E. J r., & Schlesinger L. A. (1994). Puttingthe service-profit chain to work. Harvard Business Review, March-April, 163-174.

Ittner, C. D., & Larcker D. F. (1998). Are nonfinancial measures leading indicators of financialperformance? An analysis of customer satisfaction, Journal of Accounting Research, 36, 1-35.

Kroloff, G. (1988). At home and abroad: Weighing in. Public Relations Journal, 44, 8-10.

Marsden, P., Samson, A., & Upton, N., (2005). Advocacy drives growth: Customer advocacy drivesUK business growth, Brand Strategy 198, 45-48.

McGregor, J . (2006). Would You Recommend Us? That simple query to customers is shaking upplanning and executive pay. Business Week article retrieved online at:

www.businessweek.com/magazine/content/06_05/b3969090.htm on 8/4/2008.

Mize ski, R. W. (1982). An attribution explanation of the disproportionate influence of unfavorableinformation. The Journal of Consumer Research, 9, 301-310.

Reichheld, F. (2003). The one number you need to grow. Harvard Business Review, December,2003.

Richey, M. H., Koenigs, R. J ., Richey, H. W., & Fortin R. (1975). Negative salience in impressionsof character: Effects of unequal proportions of positive and negative information. Journal of SocialPsychology, Dec. (Second Half): 233-41.

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Weinberger, M. G., Allen, C. T., & Dillon, W. R. (1981). Negative information: Perspectives andresearch directions,Advances in Consumer Research, 8, 398-404.

Weinberger, M. G. & Dillon W. R. (1980). The effects of unfavorable product rating information.Advances in Consumer Research, 7, 528-532.

Wilson, W. R., & Peterson R. E. (1989). Some limits on the potency of word of mouth informationAdvances in Consumer Research, 16, 23-29.

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This document is provided for informational purposes only and the information herein is subject to

change without notice. Please report any errors to Satmetrix. Satmetrix does not provide anywarranties covering and specifically disclaims any liability in connection with this document.

About Satmetr ix

Satmetrix is the leading global provider of on-demand software applications andconsulting services to measurably improve customer loyalty and link these results tofinancial benefits. As the co-developer of Net Promoter, the companys solutions enablecompanies to monitor the customer experience at key touch points, measure loyalty ofcustomers, partners and employees, identify performance gaps, and engage customersin a continuous dialog through online communities. The company has deployed morethan 700 enterprise solutions in 40 languages.

2009 Satmetrix Systems, Inc. All rights reserved. Satmetrix and the Satmetrix logo are

trademarks of Satmetrix Systems, Inc. Net Promoter, NPS, and Net Promoter Score are

trademarks of Satmetrix Systems, Inc., Bain & Company, and Fred Reichheld.

.

Satmetrix

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