By Alexandre Taylor
On the surface, modern loyalty programs, which are now ubiquitous in consumer markets, have changed little since their appearance in American cereal boxes a century ago. Initial loyalty programs sought to retain customers by offering incentives, whether financial or physical, alongside a purchase. This spending-fueled strategy for customer loyalty management continued well into the 2000s. But firms were approaching a roadblock, one which they may have been ignoring for a long time. Customer loyalty programs weren’t all that profitable. The reason was obvious – everyone was doing it.
To understand how loyalty programs have evolved in the past few decades, and why they are more important than ever, we can look at two companies: Amazon and Delta Airlines. Digital Commerce estimates that Amazon’s customer retention rate is upwards of 90%, paramount in the highly competitive industry of online retail. Yet Amazon’s Prime initiative comes at a steep cost, both for consumers (at a price tag of $119) and for Amazon itself (Amazon paid nearly a billion dollars to ensure same-day deliveries). In Amazon’s case, Prime is more about keeping customers in the Amazon ecosystem than it is about making money directly from purchases (Note: we assume Prime doesn’t make money due to known expenses, yet Amazon doesn’t separate the initiative from other revenue streams).
A more recent development highlights other reasons why loyalty programs are so important. This year, Delta Airlines raised $8 billion in debt by collateralizing the cash flows of its loyalty program, which continued to generate revenues through point systems even as the airline industry itself flew headfirst into red ink. The development of loans dependent on loyalty programs emphasizes the fact that such initiatives are assets, not just gimmicks. They diversify a firm’s revenue streams, even for asset and investment-heavy industries like air travel. They can provide collateral for loans which cash-strapped industries may be hard pressed to present in a pinch. And most importantly, as exhibited by Amazon, they also help retain customers.