The Pros and Cons of Customer Loyalty Programs

With this post, you will delve into the advantages and disadvantages of launching a loyalty program. If you're looking for a detailed rundown of all that's best and worse in reward programs, this post is for you.

Pros of loyalty programs:

1. Increasing Customer Retention
2. Increasing Customer Lifetime Value
3. Attracting new customers
4. Getting more data from your customers
5. Reducing the number of unprofitable customers
6. Brand advocacy

Cons of loyalty programs:

1. Distinguishing between loyal customers and frequent shoppers
2. Breaking even
3. Market saturation
4. Limitations of loyalty data
5. Managing the loyalty program
6. What if you decide to end the loyalty program?
   

Let's dive in.

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Learn more: Explore Voucherify's Open Source Loyalty Accelerator

Why are there both pros and cons of loyalty programs?

Loyalty programs are intended to reward your best (loyal) customers and increase your retention rate. Businesses choose to offer a rewards program with an aim to retain current customers and turn new buyers into loyal customers. Selling to your existing customers is a lot easier than attracting new ones. Harvard Business Review says that businesses find it 5 to 25 times harder to get a new customer than to keep an existing one.

Although having a customer loyalty program sounds like a fail-proof strategy, there are certain advantages and disadvantages associated with reward programs. In this article, we will compare the benefits and drawbacks of having a customer loyalty program that should help you to make the decision on what’s right for your business.

Pros of customer loyalty programs

1. Increasing customer retention

The primary motive behind offering a rewards program is to retain customers by rewarding them for their repeat purchase behavior. Such programs make customers feel valued, which encourages them to continue purchasing your products or services, therefore improving your customer retention rate. As increasing customer retention by just 5% boosts profits by 25 to 95% (source: Bain & Co.), investing in retaining loyal customers is an important strategy.

2. Increasing Customer Lifetime Value (CLV)

Customer Lifetime Value (CLV) is the net profit attributed to the overall relationship you will maintain with a customer. It measures how valuable the customer is to you now and the projected value of all your interactions with them in the future.

Why do reward programs increase the Customer Lifetime Value? People are psychologically more likely to return to something if they feel that they have made progress towards a goal. It is called the endowed progress effect. Existing customers are 50% more likely to try new products and spend 31% more compared to new customers. Go here to learn more about the Endowment Effect.

• You can calculate your current CLV rate and other loyalty metrics with Voucherify Loyalty Calculator.
• If you'd like to learn more about other crucial loyalty metrics, visit this post.
  

3. Attracting new customers

A well-designed customer loyalty program can help businesses attract new customers. If you offer points or discounts, the new customers will more eagerly join your loyalty program to take advantage of your offerings. The subconscious effect of reciprocity that customers may experience when receiving something for free can actually increase the sales intent. Once the customers give you their consent and some data, you can incentivize them to complete their first purchase with personalized offers.

Having a customer loyalty program can help distinguish your business from your competitors. Customers have an overwhelming number of choices for a single product or service. A rewards scheme can help them choose your business over another one that doesn’t offer any type of incentive. You can win the hearts of your future customers without the need to start a price war with your competitors. Having an incentives program in place might be a competitive advantage your business needs.

Visit this post to learn more proven ways to encourage customers to join your loyalty program.

4. Getting more data from customers

56% of consumers are willing to share data to receive better service. This means you can get more data from customers who subscribe to your rewards program. A loyalty program data gives you a complete view of customer behavior, buying habits, and preferences. It will help you target them better with the relevant content, personalized promotions, and help with up- and cross-selling. You can use the provided data for omnichannel customer communications. A well-developed customer loyalty software with reporting and tracking features allows companies to segment customers and differentiate profitable customer segments from unprofitable ones.

5. Reducing the number of unprofitable customers

Through a loyalty program, you can reward the more profitable customer segments, instead of reducing prices for all customers. This is the most efficient way to focus your budget on the customers that generate the most profit for your company and stop burning money on unnecessary price reductions. Remember that the top 10% of your customer base spends 3x more than your average customer.

6. Brand advocacy

A rewards scheme could also encourage free referrals, as enthusiastic customers may share their experience with their family and friends either in-person or online. 70% of consumers would be more likely to recommend a brand with a good rewards program (source: Hubspot). Bain & Company’s research showed that repeat customers are more likely to refer others. After just one purchase from an online apparel retailer, an average shopper was likely to refer three other people to the site. A customer that made ten purchases from an online apparel retailer was likely to refer seven different people to the site.

Cons of Loyalty Programs

1. Distinguishing between loyal customers and frequent shoppers

Loyalty is the tendency of some consumers to continue buying the same brand of goods rather than competing brands. You might be mistakenly assuming that a frequent customer is a loyal one. It is not always the case. The customer might be buying from your company just because it is convenient or because they like the benefits of the rewards program you offer (even though they do not really care about the brand).

To make a frequent buyer become a loyal customer or to differentiate between frequent buyers and loyal customers, you should:

• Implement advocate marketing tactics.
• Reward customers for referring friends, writing reviews, and other “loyal” behaviour (not just for their frequent purchases).
  

2. Breaking even

Having a good customer loyalty program will cost you money and time. Beyond the actual cost of the rewards, you will have to track the cost and time dedicated to  running the program. Compared to the benefits you get from your rewards program, like returning customers, lower acquisition costs, higher CLV or free referrals, you might be breaking even, making profit or losing money.

There is no warranty that your loyalty program will be profitable. It depends on the rules and settings of your loyalty program. You might be giving away too much, by giving discounts or rewards to people that would have been buying your product anyways or by giving rewards they do not really want. You also have to be prepared for the possibility of fraud. Check out our article about how to prevent fraud in customer loyalty programs.

There are plenty of cases of businesses failing to conduct research properly before implementing their customer loyalty program and putting themselves in financial trouble as a result. You have to plan the strategy ahead, measure and optimize the program to make sure it is breaking even. If your discounts are well-chosen and personalized and your program is effective at increasing repeat purchases and average order value, you should be able to recoup any losses.

3. Market saturation

As there are so many rewards programs out there that your customer loyalty program might get lost in the crowd. To create a competitive advantage, you need a really well-designed one. You do not need a “unique” loyalty program, you need one designed for your audience. Using the right rewards, rewarding custom events, and personalizing the experience should make your program stand out.

4. Limitations of loyalty data

As loyalty data does not look at the purchases from other brands and stores, it provides a limited picture of consumers’ overall purchase behavior. However, it’s possible to address this point on the list of the pros and cons of reward programs by incentivizing customers to share their other purchase data by rewarding them for submitting this information to you. It will not be full and objective statistical data. The only data you will ever really know is the customer behaviour in your store.

5. Managing the loyalty program

Managing and optimizing your rewards program might take a lot of time, stress, and developer resources. You should have at least one person dedicated to monitoring your program and decision making, to make sure that your program brings you the desired results. The amount of work depends on your promotion engine. If it is easy-to-use, flexible, and has an extensive tracking system, it might be possible to manage it almost completely without the need for developers. If it is not so flexible or it is your in-house solution, you have to have some developer capacity to make adjustments.

6. What if you decide to end the loyalty program?

You may negatively impact or anger your most valued clients if you need to end the program. By closing your rewards program, you could be sending the wrong message to those who’ve truly been loyal to your brand. This may cause your customers to go to your competitors. If you haven’t developed a loyalty program exit strategy from the start, phasing it out slowly is one strategy that can help.

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Summary

Looking at these pros and cons, there is no doubt that the benefits of loyalty programs outweigh the disadvantages. Most of the disadvantages can be prevented if you carefully and strategically launch a loyalty program in the market. You need to know your target audience, their preferences, preferred rewards, channels for communication. You need to make the program easy to understand and to participate in and communicate its existence to your audience. The most important is to be able to test, iterate and optimize the program so tracking and reporting, as well as the flexibility of your customer loyalty software, plays an important role.

Voucherify, our loyalty software, can help you launch loyalty programs in a couple of clicks, with minimum effort of integration with your current software solutions. Our loyalty program management system enables you to segment your customers, create personalized rewards, tiers, and earning rules for each segment, and distribute them via channels of your choice. We provide an easy-to-use interface for both marketers (to set up and track the program) and end-users (to see their progress and available rewards). We let you customize your branding, tracked events, and customer metadata.

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