Why investors are attracted to the number zero.
By Vikas Mittal
As The List Of Customer Metrics Grow, Which Ones Indicates Financial Growth, And Which Are Just A Fad?
Recently, one of my academic colleagues said: “Customer satisfaction is so yesterday. There are so many new metrics like customer engagement. It’s high time we abandon customer satisfaction.” That same afternoon, I was in a meeting with the vice president of strategy for an engineering company with approximately $10 billion in revenue, who said, “Our board wants to increase sales, margins and stock price, so they need to see improvements in promoter scores. That’s what they want, and that’s what we will deliver.”
Both conversations got me thinking about the value of different customer metrics. Executives are confronted with a variety of metrics, such as customer satisfaction, complaints, recommendations, repurchase and net promoter scores. Which metric should they adopt? The market for ideas is efficient and evolving. On the one hand, we should embrace the notion that new customer metrics keep surfacing. On the other hand, executives need an evidence-based approach to separate the wheat from the chaff.
To select the right customer metric, executives need to consider two factors. First, they should focus on a customer metric that is an enduring practice, not a fad. Rather than over-simplifying, a customer metric should mirror the complexity of a customer-centric firm, the needs of its customer base and the ability to implement specific customer-based initiatives. An enduring customer metric will not be a magic bullet. Second, an enduring metric should show evidence for improving sales, margins, cash flow and market share. By adopting and improving scores on the customer metric, executives should show demonstrable improvement in sales, margins, market share and other financial metrics.
Customer Metrics that Matter for Financial Outcomes
At the crux of measuring customer metrics—whether net promoter scores, engagement or satisfaction—is the belief that improving these scores will improve financial outcomes for a firm. How true is this belief, and is it supported by evidence? If the evidence does not support a link between a customer metric and financial outcomes, what good is the metric as a strategic planning tool?
A 2006 study of 80 different companies over six years (1994-2000) sought to answer this question. The authors of the resultant paper, “The Value of Different Customer Satisfaction and Loyalty Metrics in Predicting Business Performance,” statistically compared the ability of several survey-based customer metrics to predict key financial outcomes. They compared five customer metrics: average customer satisfaction, customer complaints, repurchase intentions, net promoter score and word-of-mouth recommendations. They wanted to answer one question: Do any of these customer metrics statistically predict sales growth, gross margin, net operating cash flow, market share and shareholder return?
Before you read any further, do a thought experiment to test if you have a bias. Which one did you pick as being best able to predict these financial outcomes? The table below shows the results.
Only three metrics—customer satisfaction, repurchase intention and complaints—predict sales growth and gross margins. When it comes to operating cash flow and shareholder return, only customer satisfaction has any predictive ability.
The only customer metric that predicts and improves all five financial outcomes is customer satisfaction. The next-best metric is repurchase intention, predicting three of the five outcomes. Whether a board wants to grow sales, improve gross margins, increase cash flow, expand margins or create shareholder value, the one customer metric to grow is customer satisfaction.
Net promoter scores were related to zero out of five financial outcomes. Another study in the Journal of Marketing, “A Longitudinal Examination of Net Promoter and Firm Revenue Growth,” examined results from 21 companies and more than 15,000 interviews to find the same conclusion. “Managers have adopted the net promoter metric for tracking growth on the basis of the belief that solid science underpins the findings and that it is superior to other metrics. However, our research suggests that such presumptions are erroneous,” the authors of that study write.
Fad and Enduring Practices
Management fads are simple, prescriptive, falsely encouraging and lack scientific evidence for their efficacy, yet most followers believe they work. Net promoter scores are not backed by any credible evidence of financial predictive ability but have caught on because they seem simple (one item measures it all), prescriptive (you can compute the promoter score for every customer segment) and falsely encouraging (increasing promoter score is believed to increase sales, revenue, share and profits).
In contrast, customer satisfaction is backed by credible evidence and provides a well-established framework for customer-based execution and strategy. To pull it off, an executive must work with trained statisticians to identify key drivers of satisfaction, understand their relative weights, derive the link between customer satisfaction and financial outcomes, and then make investments to improve key attributes. None of this is simple, nor does it provide false encouragement that satisfaction is the cure-all remedy. Research on customer satisfaction shows that very high satisfaction can be costly for companies, and satisfaction has differential effectiveness for different outcomes.
A 2017 study published in the Journal of the Academy of Marketing Science, “Do Managers Know What Their Customers Think and Why?,” examined 70,000 customers and 1,068 managers from 97 different companies to determine if manager perceptions of customer satisfaction are aligned with customer perceptions. The study showed three results: First, managers overestimate the extent to which customers are satisfied and loyal. Second, managers underestimate the extent to which customer satisfaction drives complaints and loyalty by almost 40%. Third, when manager perceptions are misaligned with customer perceptions, customer satisfaction suffers.
For customer-based strategy, these findings mean that not only are most customers less satisfied than managers believe, but most managers underestimate the loyalty benefits of satisfying customers. This leads to further declines in customer satisfaction. Disheartened, managers chase fads like net promoter scores, which lead to further declines in customer satisfaction. Caught in a vicious trap of chasing fads, executives let customer satisfaction, a proven metric, suffer and negatively impact customers and investors.
Now What: Back to Basics
Rather than chasing fads, executives will benefit from going back to basics that help them measure customer needs. To fully incorporate customer needs in the planning process, executives should use a holistic approach that provides concrete guidance for customer-based execution and strategy. Such an approach—measuring customer satisfaction and its components—paints a realistic portrait of customer needs. For senior executives, it provides a roadmap for financial management by predicting sales, margins, cash flow, market share and stock market value. Thus, customer satisfaction can serve as the one metric that advances the cause of customers and shareholders in unison.
When executives chase fads instead of staying focused on customer satisfaction, customers lose with lower satisfaction, investors lose with lower financial performance, and the firm loses to competitors. To avoid this trap, executives need to remind themselves that their main objective is to satisfy customers and create value for investors, not chase fads.
Vikas Mittal is the J. Hugh Liedtke Professor of Marketing and Management at the Jones Graduate School of Business at Rice Univeristy.
This article first appeared American Marketing Association's Marketing News as Which Customer Metric Best Predicts Financial Performance?