Combating Improved Customer Retention by Competitors

The current literature is filled with blogs about customer loyalty and customer
retention. As companies begin to understand the implications of these concepts
the notion of investing in customer retention becomes appealing. The good news is that companies are beginning to invest in customer retention programs. The bad news is that many companies don’t know what or how to measure retention or to understand, interpret and analyze the results. For those companies in the same market as those investing in customer retention they also need to invest in customer retention programs if they intend to hold their position in the market. The point is that customer retention criteria and measurements are vastly different from customer satisfaction measures.

Now that we are into the real market war of battling for market share, I will examine the impact of changes in retention by a competitor and what it will take to protect or recover market share attacked by the competitor. This blog will continue with the same scenario as the first two blogs where a service market for a product is composed of three competitors. The three competitors are the manufacturer, a large, national third party maintainer (TPM), and all other service organizations considered as a single competitor.

The combat between competitors for market share is probably the classic problem in American business. Each competitor in a specific market is trying to take (and keep) customers from its competitors. The well known and well documented war between Pepsi and Coke is perhaps the most widely discussed. (See the book Pepsi Sneezed’).

Case 1 - Manufacturer increases retention rate from 90% to 92%

For this blog I will use the data from the first blog on market share where I illustrated that when the manufacturer had a 90% retention rate, the large, national third party maintainer had an 88% retention rate and the other servicers had an 86% retention rate this led to a steady state condition of market shares which were 35%, 33% and 32% respectively. It was further shown that if only the manufacturer increased the retention rate of its customers, the steady state market share would shift to 40.6%, 30.4% and 29.0% respectively for the three competitors when no other changes in retention rates had occurred.

The question for the third party maintainer is what retention rate must it obtain in order to preserve his 33% market share or to grow beyond that share when the manufacturer has increased its retention rate to 92%. It is clear that the TPM must increase retention rate just to hold current market share. The good news for the TPM is that not all the market share to be gained by the manufacturer will come from the TPM; some will come from other service organizations. Similarly, when the TPM increases its retention rate, not all of the market share gain will be at the expense of the manufacturer. The following chart indicates the long term market share that will be achieved by the TPM for various retention rates when the manufacturer has increased its retention rate to 92%.

TPM retention rate versus market share
Retention Rate 0.88 0.885 0.89 .895 .90
Market Share 0.304 0.314 0.323 0.333 0.344

From this chart it is clear that the TPM must increase the retention rate from 88% to about 89.5% just to maintain the original market share of 33.1%. The loss of market share will be from the other service organizations rather than the TPM. If the TPM intends to grow market share ahead of the manufacturer, the TPM must increase customer retention rates two percent in order to get about one percent long term growth in market share (33.1% to 34.4%).

It is not always obvious that one or more competitors are attempting to increase customer retention rates, some signs may be missed. Lower service contract prices induce customers to renew contracts (discounts have the same effect) and keep them from defecting to competitors. Similarly, offering service contracts with longer duration will minimize customer defection. (Sears used the phrase ‘buy tomorrow’s service at today’s prices” as a way to encourage service contract renewal).
A complementary tactic for growing market share is to attack competitive weaknesses to encourage defections. In Southern California there is a real battle going on between banks. One tactic used by a smaller bank is to advertise personal service (get to know your banker) because the larger banks have a high turnover as a consequence of mergers. For the hardware service business, a tactic that might encourage defection could be to guarantee parts delivery within a specified time (if not received in time, the price of the part would be reduced by x%). Federal Express has a policy that reduces (or eliminates) payment if the package is not delivered on time. In any service industry, it generally takes setting a new standard for the level of service to create a sufficient force in the market to encourage defection from competitors. The exception to this rule occurs when the market is sufficiently fragmented (ill defined) to preclude adequate information being available to potential customers about competitive offerings.

Case 2 - TPM increases retention rate from 88% to 90%

Again, assume that the manufacturer has a 90% retention rate, the TPM has an 88% retention rate and the other servicers have an 86% retention rate; the market share of each is about 35%, 33% and 32% respectively. Now consider the case where the TPM increases the retention rate of its customers from 88% to 90%, the market share would shift to 33% for the manufacturer, 37% for the TPM and 30% for the other service companies when no other changes in retention rates occur.

The question for the manufacturer is what retention rate must be obtained in order to preserve a 35.4% market share or to grow beyond that share when the TPM has increased its retention rate to 90%. It is clear that the manufacturer must increase its retention rate just to hold its current market share. The good news for the manufacturer (as it was for the TPM) is that not all the market share to be gained by the TPM will come from the manufacturer. Some of the gain will come from the other service organizations. The following chart indicates the long term market share that will be achieved by the manufacturer for various retention rates when the TPM has increased its retention rate to 90%.

Manufacturer retention rate versus market share
Retention Rate 0.90 0.905 0.91 0.915 0.92
Market Share 0.331 0.342 0.354 0.368 0.382

As can be seen from the table, the manufacturer must increase retention rate by 1% in order to maintain long term market share of 35.3% that was realized when the TPM only had an 88% retention rate. When the manufacturer also increases retention rates, the loss of market share will be from the other service organizations rather than from the manufacturer. Recall that the table of market share versus retention is very non-linear, especially at high retention rates. This non linearity helps reduce the amount of increase in retention rate necessary for the manufacturer to maintain its market share. if the manufacturer intends to grow market share in the face of the TPM pursuing increased market share, the manufacturer needs only to increase customer retention rates an additional one half percent to get a market share increase of almost 1.5%!

As I noted previously, the market share values in this blog are steady state shares which are best used for planning purposes only. Thus, the market share numbers presented for various retention rates would only be achieved after a period of time with no intervening changes in retention rates by any of the competitors in the market. However, the results do provide some insight into the market. For example, as a competitor increases its retention rate, not all the loss of market share comes from only one competitor. In general, the distribution of market share loss will be proportional to the way in which the other competitors lose business to the one gaining share. If one competitor gets twice as many customers from one competitor as another, the loss of market share will be in approximately the same proportion.
Further, when a smaller competitor increases retention rates, it takes a smaller percent improvement in retention rates for the larger competitors to maintain market share than the percent increase in retention rate generated by the smaller competitor.

I will address the last question that was stated in the first blog in my next blog so that I can conclude this brief series with a few blogs discussing the implications of growing market share.