t

^^ rives
Customer .
Equity
A company's current
customers provide
the most reliable source
of future revenues
and profits.

By Katherine N. Lemon,
Roland T, Rust, and
Valarie A. Zeithaml

20 I MM S p r i n g 2001
 C o n s i d e r t h 6 i s s u e s facing a typical brand manager, product manager,

or marketing-oriented CEO: How do I manage the brand? How will my customers react to :

r
changes in the product or service offering? Should 1 raise price? What is the best way to

enhance the relationships with my current customers? Where should I focus my efforts?

Business executives can answer such questions by focusing on customer equity-

the total of the discounted lifetime values of all the firm's customers, A strategy based on

customer equity allows firms to trade off between customer value, brand equity, and

customer relationship management. We have developed a new strategic framework, the

Customer Equity Diagnostic, that reveals the key drivers increasing the firm's customer

equity. This new framework will enable managers to determine what is most important to the

customer and to begin to identify the firm's critical strengths and hidden vulnerabilities.

Customer equity is a new approach to marketing and corporate strategy that finally puts the

customer and, more important, strategies that grow the value of the customer, at the heart

of the organization.

For most firms, customer equity is certain to be the most important determinant of the

long-term value of the firm. While customer equity will not be responsible for the entire

value of the firm (e,g,, physical assets, intellectual property, and research and development

competencies), its current customers provide the most reliable source of future revenues and

profits, This then should be a focal point for marketing strategy.

Although it may seem obvious that customer equity is key to long-term success, under-

standing how to grow and manage customer equity is more complex. How to grow it is of

utmost importance, and doing it well can create a significant competitive advantage. There

are three drivers of customer equity—value equity, brand equity, and relationship equity

(also known as retention equity}. These drivers work independently and together. Within each

of these drivers are specific, incisive actions, or levers, the firm can take to enhance its over- "~ --

all customer equity. '•^'

MM S p r i n g 2001 I 21
 EXECUTIVE Value Equity
Value is the keystone of the customer's
The key actionable levers of brand equi-
ty are brand awareness, attitude toward the
briefing relationship with the firm. If the firm's
products and services do not meet the cus-
brand, and corporate ethics. The first, brand
awareness, encompasses the tools under the
tomer's needs and expectations, the best firm's control that can influence and enhance
Customer equity is criticai to a brand strategy and the strongest retention brand awareness, particularly marketing
firm's long-term success. We devei- and relationship marketing strategies will communications. The new focus on media
be insufficient. Value equity is defined as advertising by pharmaceutical companies
oped a strategic marketing frame- {e.g., Zyban, Viagra, Claritin) is designed to
the customer's objective assessment of the
work that puts the customer and utility of a brand, based on perceptions of build brand awareness and encourage
Vi'hat is given up for what is received. Three patients to ask for these drugs by name.
growth in the value of the customer
key levers influence value equity: quality, Second, attitude toward the brand
at the heart of the organization.
price, and convenience. encompasses the extent to which the firm is
Using a new approach based on Quality can be thought of as encom- able to create close connections or emotion-
customer equity—the total of the passing the objective physical and non- al ties with the consumer. This is must often
physical aspects of the product and service influenced through the specific nature of
discounted lifetime values of all the media campaigns and may be more
offering under the firm's control. Think of
the firm's customers—we describe the power FedEx holds in the marketplace, directly influenced by direct marketing.
thanks, in no small part, to its maintenance Kraft's strength in consumer food products
the key drivers of firm growth: value
of high quality standards. Price represents exemplifies the importance of brand atti-
equity, brand equity, and relation- the aspects of "what is given up by the cus- tude—developing strong consumer atti-
ship equity. Understanding these tomer" that the firm can influence. New e- tudes toward key brands such as Kraft
world entrants that enable customers to find Macaroni and Cheese or Philadelphia
drivers will help increase customer
the best price (e.g., www.mysimon.com) Cream Cheese. The third lever, corporate
equity and, ultimately, the value of have revolutionized the power of price as a ethics, includes specific actions that can
the firm. marketing tool. Convenience relates to influence customer perceptions of the
actions that help reduce the customer's time organization (e.g., community sponsorships
costs, search costs, and efforts to do busi- or donations, firm privacy policy, and
ness with the firm. Consider Fidelity employee relations). Home Depot enhanced
Investments' new strategy of providing its brand equity by becoming a strong sup-
Palm devices to its best customers to enable porter of community events and by encour-
anytime, anywhere trading and updates— aging its employees to get involved.
clearly capitalizing on the importance of
convenience to busy consumers. Relationship Equity
Consider a firm with a great brand and
Brand Equity a great product. The company may bo able
where value equity is driven by per- to attract new customers to its product with
ceptions of objective aspects of a firm's its strong brand and keep customers by
offerings, brand equity is built through meeting their expectations consistently. But
image and meaning. The brand serves three is this enough? Given the significant shifts
vital roles. First, it acts as a magnet to in the new economy—from goods to servic-
attract new customers to the firm. Second, it es, from transactions to relationships—the
can serve as a reminder to customers about answer is no. Great brand equity and value
the firm's products and services. Finally, it equity may not be enough to hold the cus-
can become the customer's emotional tie to tomer. What's needed is a way to glue the
the firm. Brand equity has often been customers to the firm, enhancing the sticki-
defined very broadly to include an exten- ness of the relationship. Relationship equity
sive set of attributes that influence con- represents this glue. Specifically, relation-
sumer choice. However, in our effort to sep- ship equity is defined as the tendency of the
arate the specific drivers of customer equity, customer to stick with the brand, above and
we define brand equity more narrowly as beyond the customer's objective and subjec-
the customer's subjective and intangible tive assessments of the brand.
assessment of the brand, above and beyond The key levers, under the firm's control,
its objectively perceived value. that may enhance relationship equity are

22 I M M S p r i n g 2 0 0 1
loyalty programs, special recognition and treatment, affinity pro- Second, value equity will be central for purchases with com-
grams, community-building programs, and knowledge-building plex decision processes. Here customers carefully weigh their
programs. Loyalty programs includf actions that reward cus- decisions and often examine the trade-offs of costs and benefits
tomers for specific behaviors with tangible benefits. From airlines associated with various alternatives. Therefore, any company
to liquor stores, from Citigroup to Diet Coke, the loyalty pro- that either increases the customer benefits or reduces costs for its
gram has become a staple of many firms' marketing strategy. customers will be able to increase its value equit)-. Consider con-
Special recognition and treatment refers to actions that recognize sumers contemplating the conversion to DSL technology for
customers for specific behavior with intangible benefits. For Internet access. This is often a complex, time-consuming deci-
example, US Airways' "Chairman Preferred" status customers sion. DSL companies that can reduce the time and effort
receive complimentary membership in the US Airways' Club. involved in this conversion will have the value equity advantage.
Affinity programs seek to create strong emotional connec- Third, value equity will be important for most business-to-
tions with customers, Unking the customer's relationship with the business purchases. In addition to being complex decisions, B2B
firm to other important aspects of the customer's life. Consider purchases often involve a long-term commitment or partnership
the wide array of affinity Visa and MasterCard choices offered by between the two parties (and large sums of money). Therefore,
First USA to encourage increased use and higher retention. customers in these purchase situations often consider their deci-
Community-building programs seek to cement the customer-firm sions more carefully than individual consumers do.
a'lationship by linking the customer to a larger community of like Fourth, a firm has the opportunity to grow value equity
customers. In the United Kingdom, for example, soft drink manu- when it offers innovative products and services. When consider-
facturer Tango has created a Web site that has built a virtual com- ing the purchase of a "really new" product or service, customers
munity with its key segment, the nation's youth. must carefully examine the components of the product because
Finally, knowledge-building programs increase relationship the key attributes often may be difficult to discern. In many
equity by creating structural bonds between the customer and the cases, consumers make one-to-one comparisons across products,
firm, making the customer less willing to recreate a relationship trying to decide whether the new product offers sufficient bene-
with an nitcmativc provider The most often cited example of this fits to risk the purchase. New MP3-type devices that provide
is amiizon.a>m, but learning relationships are not limited to cyber- consumers with online access to music are examples of such
space. Firms such as British Airways have developed programs to innovative products and services. Consumers will seek out sub-
track customer food and drink preferences, thereby creating bonds stantial information (e.g., from the Web, friends, and advertise-
with the customer while simultaneously reducing costs. ments) to determine the costs and benefits of new products.
Firms that can signal quality and low risk can grow value equity
Determining the Key Drivers in such new markets.
Think back to the set of questions posed earlier. How should Finally, value equity will be key for firms attempting to
a marketing executive decide where to focus his or her efforts: revitalize mature products. In the maturity stage of the product
Building the brand? Improving the product or service? life cycle, most customers observe product parity, sales level off,
Deepening the relationships with current customers? and, to avoid commoditization, firms often focus on the role of
Determining what is the most important driver of customer equi- the brand. But value equity also may grow customer equity. By
ty will often depend on characteristics of the industry and the introducing new benefits for a current product or service, or by
market, such as market maturity or consumer decision processes. adding new features to the current offering, firms can recycle
But determining the critical driver for your firm is the first step their products and services and grow value equity in the
in building the truly customer-focused marketing organization. process. Consider the new Colgate "bendable" toothbrush. It
seeks to revitalize the mature toothbrush market with a new
When Value Equity Matters Most answer to an age-old problem. The success of this new irmova-
Value equity matters to most customers most of the time, tion increases Colgate's value equity.
but it will be most important under specific circumstances. First, Clearly then, the importance of value equity will depend on
value equity will be most critical when discernable differences the industry, the maturity of the firm, and the customer decision-
exist between competing products. Tn commodity markets, making process. To understand the role of value equity within
where products and competitors are often fungible, value equity your organization, ask several key customers and key executives
is difficult to build. However, when there are differences to assess your company using the set of questions provided in
between competing products, a firm can grow value equity by the Customer Equity Diagnostic on the following page.
influencing customer perceptions of value. Consider IBM's
•[ liinkTad brand of notebook computers. Long recognized for When Brand Equity Matters Most
innovation and advanced design, IBM has been able to build an while brand equity is generally a concern, it is critical in
advantage in the area of value equity by building faster, thinner, certain situations. First, brand equity will be most important for
lighter computers with adv2inced capabilities. low-involvement purchases with simple decision processes. For

MM S p r i n g 2001 I 23
 many products, including frequently purchased consumer pack-
Customer Equity Diagnostic aged goods, purchase decisions are often routiruzed and require
little customer attention or involvement. In this case, the role of
the brand and the customer's emotional connection to the brand
How much do your customers care about value equity? will be crucial. In contrast when product and service purchase
• Do customers perceive discernable differences between brands? Do they decisions require high levels of customer involvement, brand
focus on the objective aspects of the brand? equity may be less critical than value or relationship equity.
U Do you primarily market in a B2B environment? Coca-Cola, for example, has been extremely successful making
U Is tfie purcfiase decision process complex in your industry? purchases a routine aspect of consumer's shopping trips by
G Is innovation a key to continued success in your industry? developing extremely strong connections between the consumer
a Do you revitalize mature products with new features and benefits?
and the brand.
How are you doing? Second, brand equity is essential when the customer's use
• Are you the industry leader in overall quality? Do you have initiatives in of the product is highly visible to others. Consider Abercrombie
place to continuously improve quality? & Fitch, the home of in-style gear for the "Net Generation." For
• Do your customers perceive that the quality !hey receive is worth the price A&F aficionados, the brand becomes an extension of the Indi-
they paid? vidual, a "badge" or statement the individual can make to the
• Do you consistently have Ihe lowest prices in your industry? world about himself or herself. These high-visibility brands have
• Do you lead the industry in distribution of your products and services?
• Do you make it most convenient for your customers to do business
a special opportunity to build brand equity by strengthening the
wilh you? brand image and brand meanings that consumers associate with
the brand.
Third, brand equity will be vital when experiences associated
How important is brand equity?
with the product can be passed from one individual or generation
G Are the emotional and experiential aspects of the purchase important? to another. To the extent that a firm's products or services lend
Is consumption ol your product highly visible to others?
G Are most ol your products frequently purchased consumer goods? themselves to communal or joint experiences (e.g., a father teach-
• Is the purchase decision process relatively simple? ing his son to shave, shared experiences of a special wine), the
• Is it dilficult to evaluate the quality of youi products or services prior firm can build brand equity. The Vail ski resort knows the value of
to consumption or use? this intergenerational brand value well The resort encourages
G Is advertising the primary form of communication to your customers? family experiences by promoting muttigenerational visits.
Fourth, the role of the brand will be critical for credence
How are you doing?
goods, when it is difficult to evaluate quality prior to consump-
G Are you the industry leader in brand awareness? tion. For many products and services, it is possible to "try before
G Do customers pay attention to and remember your advertising
you buy" or to easily evaluate the quality of specific attributes
and the information you send them?
G Are you known as a good corporate citizen? Active in community events? prior to purchase. However, for others, consumers must use dif-
G Do you lead your industry in the development and maintenance of ferent cues for quality. This aspect of brand equity is especially
ethicai standards? key for law firms, investment banking firms, and advertising
• Do customers feei a strong emotional connection to the brand? agencies, which are beginning to recognize the value of strong
brand identities as a key tool for attracting new clients.
How does reiationship equity weigh in? Therefore, brand equity will be more important in some indus-
G Are loyalty programs a necessity in your industry? tries and companies than others. The role of brand equity will
G Do customers feel like "members" in your community? depend on tlie level of customer involvement, the nature of the cus-
G Do your customers talk about their commitment to your brand? tomer experience, and the ease with which customers can evaluate
G !s it possible to learn about your customers over time and customize your the quality of the product or service before buying it. Answering
interactions with them? Do your customers perceive high switching costs? the questions in the Customer Equity Diagnostic will help deter-
G Are continuing relationships with customers important?
mine how important brand equity is for your organization. i
How are you doing?
G Do customers perceive that you have the best loyalty program in your
When Relationship Equity Matters Most
industry?
In certain situations, relationship equity will be the most
G Do you lead the industry in programs to provide special benefits and important influence on customer equity. First, relationship equi-
services for your best customers? ty will be critical when the benefits the customer associates with
G To what extent do your customers know and understand how to do the firm's loyalty program are significantly greater than the
business with you? actual "cash value" of the benefits received. This "aspirational
G Do customers perceive you as the leader in providing a sense value" of a loyalty program presents a solid opportunity for
of community?
firms to strengthen relationship equity by creating a strong
G Do you encourage dialogue with your customers?
incentive for the customer to return to the firm for future pur-

24 I M M S p r i n g 2 0 0 1
chases. The success of the world's frequent flyer programs lies, the critical drivers of customer equity for its industry and for its
to some extent, in the difference between the "true" value of a key customers, the firm can respond to its customers and the
frequent flyer mile (about three cents) and the aspirational marketplace with strategies that maximize its performance on
value—the customer's perception of the value of a frequent flyer elements that matter.
mile ("I'm that much closer to my free trip to Hawaii!"). Taken down to its most fundamental level, customers
Second, relationship equity will be key when the community choose to do business with a firm because (a) it offers better
associated with the product or service is as important as the value, (b) it has a stronger brand, or (c) switching away from it
product or service itself. Certain products and services have the is too costly. Customer equity provides the diagnostic tools to
added benefit of building a strong community of enthusiasts. enable the marketing executive to understand which of these
Customers will often continue to purchase from the firm to main- three motivators is most critical to the firm's customers and will
tain "membership" in the community, just ask an active member be most effective in getting the customer to stay with the firm,
of a HOG (Harley-Davidson Owners Group) to switch to a and to buy more. Based on this understanding, the firm can
Honda Gold Wing; or ask a committed health club member to identify key opportunities for growth and illuminate unforeseen
switch to an alternate health club. Individuals who have become vulnerabilities. In short, customer equity offers a powerful new
committed to brand communities tend to be fiercely loyal. approach to marketing strategy, replacing product-based strate-
Third, relationship equity will be vital when firms have the gy with a competitive strategy approach based on growing the
opportimity to create learning relationships with customers. long-term value of the firm. •
Often, the relationship created between the firm and tho cus-
tomer, in which the firm comes to appreciate the customer's Additional Reading
preferences and buying habits, can become as important to the Aaker, David A. (1995), Managing Brand Equity. NY: The Free Press.
customer as the provision of the product or service. Database
technology has made such "learning" possible for any company Dowling, Grahame R. and Mark Uncles (1997), "Do Customer
or organization willing to invest the time and resources in col- Loyalty Programs Really Work?" Sloan Management Review, 38
lecting, tracking, and utilizing the information customers reveal. (Summer), 71-82.
For example. Dell has created learning relationships with its key
business customers through Dell's Premier Pages—customized Keller, Kevin L. (1998), Strategic Brand Management: Building,
Web sites that allow customers to manage their firm's purchases Measuring and Managing Brand Equity. NJ: Prentice-Hall.
of Dell computers. The benefit: It becomes more difficult for cus-
tomers to receive the same personal attention from an altema- Newell, Frederick (2000), Loyalty.com: Customer Relationship
tive provider without "training" that new provider. Management in the New Era ofluternet Marketing. NY:
Finally, relationship equity becomes crucial in situations McGraw-Hill.
where customer action is required to discontinue the service.
I or ni.iny services (and some product continuity programs), Rust, Roland X, Katherine N. Lemon, and Valarie A. ZeithamI
customers must actively decide to stop consuming or receiving (2000), Drii'ing Customer Equity: How Ciifitomcr Lifetime Value Is
the product or service (e.g., book clubs, insurance, Internet Reshaping Corporate Strategy. NY: The Free Press.
service providers, negative-option services). For such products
and services, inertia helps solidify the relationship. Firms pro- ZeithamI, Valarie A. (1988), "Consumer Perceptions of Price, Quality
viding these types of products and services have a unique and Value: A Means-End Model and Synthesis of Evidence,"
opportunity to grow relationship equity by strengthening the Journal of Marketing, 52 Ou!y), 2-22.
bond with the customer.
As with value and brand equity, the importance of relation-
ship equity will vary across industries. The extent to which rela- About the Authors
tionship equity will drive your business will depend on the Katherine N. Lemon is an assistant professor at Wallace E. Carroll
importance of loyalty programs to your customers, the role of School of Business, Boston College. She may be reached at
the customer community, the ability of your organization to katherine.lemon@bc.edu.
establish learning relationships with your customers, and your
customer's perceived switching costs. Answer the questions in Roland T. Rust holds the David Bruce Smith Chair in Marketing
the Customer Equity Diagnostic framework to see how impor- at the Robert H. Smith School of Business at the University of
tant relationship equity is to your customers. Maryland, whore he is director of the Center for E-Service. He may
be reached at rrust@rhsmith.umd.edu.
A New Strategic Approach
We have now seen how it is possible to gain insight into the Valarie A. ZeithamI is professor and area chair at the Kenan-FIagler
key drivers of customer equity for an individual industry, or for Business School of the University of North Carolina, Chapel Hill.
an individual firm within nn industry. Once a firm understands She may be reached at valariez@unc.edu.

MM Spring 2001 I 25