Marketing Theory http://mtq.sagepub.com/ Customer assets and customer equity: Management and measurement issues Andreas Persson and Lynette Ryals Marketing Theory 2010 10: 417 DOI: 10.1177/1470593110382828 The online version of this article can be found at: http://mtq.sagepub.com/content/10/4/417 Published by: http://www.sagepublications.com Additional services and information for Marketing Theory can be found at: Email Alerts: http://mtq.sagepub.com/cgi/alerts Subscriptions: http://mtq.sagepub.com/subscriptions Reprints: http://www.sagepub.com/journalsReprints.nav Permissions: http://www.sagepub.com/journalsPermissions.nav Citations: http://mtq.sagepub.com/content/10/4/417.refs.html >> Version of Record - Dec 5, 2010 What is This? Downloaded from mtq.sagepub.com by guest on February 14, 2012 Article Customer assets and customer equity: Management and measurement issues Andreas Persson Hanken School of Economics, Finland Marketing Theory 10(4) 417–436 ª The Author(s) 2010 Reprints and permission: sagepub.co.uk/journalsPermissions.nav DOI: 10.1177/1470593110382828 mtq.sagepub.com Lynette Ryals Cranfield School of Management, UK Abstract In spite of the current focus on marketing accountability and the growing body of research into customer equity and customer lifetime value, the finance community has not shown any noticeable interest in these increasingly well established marketing metrics and, in fact, few companies have adopted them. There is a problem here: marketing has failed to find credibility in the very field it intends to address, which is the accountability of marketing and its contribution to shareholder value. A root cause of this failure is the prevailing confusion among marketing academics about the difference between customer assets and customer equity. In this paper, we argue for a clear distinction between the management of customer assets and the measurement of customer equity. We demonstrate the advantages for external stakeholders of including the drivers of and components of customer equity in management commentaries to financial reporting; and show how this could be done using a Customer Equity Scorecard. Keywords customer assets, customer equity, customer lifetime value, marketing accountability, marketing metrics Introduction A much needed narrowing of the gap between marketing, and finance and accounting is currently under way, as evidenced by the publication of several special issues on topics such as the marketing/ finance interface (Journal of Business Research, 2000; Journal of the Academy of Marketing Science, 2005); linking marketing to financial performance and firm value (Journal of Marketing, Corresponding author: Andreas Persson, Centre for Relationship Marketing and Service Management (CERS), Hanken School of Economics, P.O. Box 479, 00101 Helsinki, Finland Email:
[email protected] Downloaded from mtq.sagepub.com by guest on February 14, 2012 In this paper. brand equity. For example. Stahl et al. Whitwell et al. 2000. customer equity research needs to incorporate theories of direct marketing. there have been numerous calls for more transparency in financial reporting of intangible assets in order to assist investors’ decision making (e.. 2003.g. 2003). i. Downloaded from mtq. the well established marketing metrics.com by guest on February 14. From a marketing perspective. Lev. 2002b). in the hope that these metrics will be adopted by firms in their financial reporting. Issues concerning the valuation of intangible assets were once again brought into the limelight with the International Accounting Standards Board’s (IASB) 2004 publication of the IFRS 3 statement on business combinations. Kumar and Shah. Ryals. which are also of interest from a finance perspective. and other off-balance sheet intangible assets to the generation of shareholder value (Gronroos. 2008a. intangibles (Accounting and Business Research. and ‘Marketing Strategy Meets Wall Street’ (Journal of Marketing. 2008). Lukas et al. finance and accounting (e. meanwhile. 2007). Rust et al. Worryingly. customers and customer management.sagepub. In line with these ideas. 2005. 2005. to address this problem. 1974: 24). we argue that marketing academics need to appreciate the difference between customer assets and customer equity. much marketing research on customer equity conspicuously lacks references to research on intangible assets that has been conducted within the areas of. in the case of corporate acquisitions.. 1989. 2004a. the drivers of customer equity. However. Hogan et al. Wyatt (2008: 244) states that ‘understanding how customer loyalty is generated and destroyed in different industries is a pre-requisite for identifying value-relevant information on customer loyalty’. the marketing/ accounting interface (Journal of Marketing Management. ˜ Canibano et al.. 2006). For example Gronroos (2003: 172) introduces the notion of ‘investing in customers’. 2008). customer equity (Blattberg and Deighton.g. there has been a rapid growth in the number of studies on customer equity-related issues over the past few years (cf. for example intellectual capital. Wiesel et al. 2007).. Marketing academics have taken the route of aiming to connect marketing investments in customer relationships. tackling the issues of measuring the value of customer relationships and of managing these relationships in order to maximize their value.. IASB. Kotler. 2009).418 Marketing Theory 10(4) 2004).. return on marketing investment (Journal of Strategic Marketing. These theories focus on customer perceptions and behaviour. 1996) and customer lifetime value (CLV)1 (Dwyer. 2006). the burgeoning interest in finance and accounting stems from a need to demonstrate marketing accountability. ¨ 2009.. Kumar et al. This indicates that marketing theory may be off track when attempting to promulgate financially-oriented customer metrics to the finance community. We argue that. 2008). 2012 . Indeed. and strategic management. it is sobering to note that some parts of the finance community even appear to prefer qualitative customer information to quantitative customer metrics (AFRAC. 2001.e. However. we find evidence that marketing academics and finance academics are taking divergent perspectives on the appropriate metrics for marketing accountability. top management. although customer-related intangibles are one of the five categories of intangible assets recognized by IFRS 3. IFRS 3 requires that. This state of affairs is particularly alarming since there have recently been calls for marketing to take a leading role in disseminating the usefulness of customer equity and other marketing metrics to our sister disciplines. however. and we propose a scorecard that sets out the drivers and components of customer equity and shows their implication for the future earnings potential of the firm. brands.. arguing that the relation¨ ship paradigm has the potential to make marketing more relevant for shareholders. 2008). accounting. From a finance perspective. both tangible and intangible assets be restated at their market values when accounting for the acquisition. service quality and relationship marketing (cf. have not sparked any noticeable attention within the finance community (Gleaves et al.. nor has the take-up among marketing practitioners been widespread. We conclude with a discussion and suggestions for further research. including its drivers. This Customer Equity Scorecard could serve as a basis for an enhanced conversation between marketing theory and financial theory with regard to the management of customer assets and the measurement of customer equity. Downloaded from mtq. manage. and balancing marketing costs against financial returns. (2001). This is in line with Hogan et al. based on a review of the customer equity-related literature. After that. First. 1996: 137–8) Blattberg and Deighton note that valuing customer relationships has many analogies with the valuation of tangible assets. We thereby contribute to marketing theory by clarifying the conceptual foundation of customer equity and addressing the confusion that has arisen over the distinction between the underlying customer asset. we review previous research on customer equity. retention. 2001: 3). They advocated a number of key changes to marketing strategy. The paper is structured as follows. we describe in more detail the development of customer equity as a concept. and limitations. such as managing customer lifecycles. organizing around customer acquisition. Their ideas were further extended by Blattberg et al. they integrated aspects of customer relationship management. who conceptualize customer equity as follows: ‘the customer is a financial asset that companies and organizations should measure. Brodie et al. and customer satisfaction within a customer equity framework. and maximize just like any other asset’ (Blattberg et al. and on the other hand.sagepub.’s (2002b: 7) contention that customer equity is a combination of the value of a firm’s current and potential customer assets. (Blattberg and Deighton. Rust et al. Next. and customer equity as a measure of the value of that asset (cf. Customer equity Customer equity was originally conceptualized by Blattberg and Deighton (1996) as a way for firms to determine the optimal balance of customer acquisition and retention spending. we argue the case for a clear distinction between. Finally. First. Thus.com by guest on February 14. 2012 . rather than simply reporting customer equity and its components. Whereas Blattberg and Deighton (1996) only included current customers in their calculation of customer equity. (2004b: 110) emphasized the importance of future potential from a marketing perspective by incorporating the discounted lifetime values of prospective future customers into their definition of customer equity. components. customer equity. customer assets. on the one hand.Persson and Ryals 419 This paper takes the form of a literature review and makes two contributions to the field of marketing accountability. They state that: to measure that equity.. and show how this could be done using a Customer Equity Scorecard. 2006: 367. arguing that the appraisal of customer equity is conceptually similar to the appraisal of the value of a portfolio of income-producing real estate. expected contributions of all current customers. and add-on selling... we explore the potential role of customer equity in financial reporting. Then we discount the expected contributions to a net present value at the company’s target rate of return for marketing investments. Rust et al. The second contribution is that we demonstrate the advantages for external stakeholders of including the actual drivers of customer equity in management commentaries to financial reporting. 2004a: 78). database marketing. we add together the discounted. we first measure each customer’s expected contribution toward offsetting the company’s fixed costs over the expected life of that customer. Storbacka. based on the objectives of customer valuation and the consequent data requirements. (2000) argued for the existence of three key drivers of customer equity: value equity. i. or using only publicly available data (Gupta et al. and customer equity as a measure of the value of that asset (cf. 1966. Because this confusion endangers acceptance of the customer equity concept by the finance community. Wayland and Cole. taking different aspects into account.. 2002b. brand. 2007. Bolton et al. 2002a. 2002. 1994). This has.sagepub..g. Anderson et al..g. the customer acquisition process (Villanueva et al.420 Marketing Theory 10(4) Rust et al. Bursk.. Rust et al. it follows that with regard to customer management.. (2002b) and Kumar and George (2007) discuss the management of customer equity as a practice that seeks to maximize customer equity by managing the customer asset. the financial valuation of customer relationships has primarily been of importance to marketing as a foundation for optimally selecting customers for marketing campaigns and measuring the effectiveness of marketing actions after implementation (Petersen et al. 2004. 2006: 367. brand equity is ‘the customer’s subjective and intangible assessment of the brand. Hence. Cravens et al. Customer assets and customer equity The idea that customers or customer relationships are valuable firm assets is by no means new (e. such as retailing (Vogel et al. 2004a: 78). Downloaded from mtq... the customer equity. To date. but the two concepts ‘customer asset management’ (e. customer relationships are the assets that marketing is concerned with managing. 2009). Levitt.e. Hogan et al.. 2008).com by guest on February 14. 2012 . above and beyond the customer’s objective and subjective assessments of the brand’ (Rust et al. 2004). In the framework proposed by Srivastava et al. based on perceptions of what is given up for what is received’..’s (2004b) customer equity models in different contexts. 2005) are used by different authors when referring to the same underlying ideas. 2002. however. They also propose a hybrid approach. 2009). The theoretical basis of the management of customers as assets or equity of a firm may thus seem straightforward. Since the development of the original customer equity model (Blattberg and Deighton.. 1994. So the marketer’s task would be to identify which of these drivers are most critical for different customers in order to increase their financial value to the supplier. Rust et al. Bell et al. and retention equity is defined as ‘the tendency of the customer to stick with the brand. (1998). and retention/ relationship equity are conceptualized by Rust et al.and disaggregate-level approaches.g. 2006) and ‘customer equity management’ (e. A number of studies have applied Rust et al. For example Hogan et al. Brodie et al.. Kumar and George. Buyer–seller relationships have also been identified as an example of a firm’s strategic assets (Amit and Schoemaker. given rise to some confusion over the distinction between the underlying customer asset.. Kumar and George (2007) discuss different distinguishing features with regard to the measurement and maximization of customer equity using various aggregate... 1983. customer relationships are included as one type of market-based asset that should be developed and managed to increase shareholder value.. we explore it in detail in the following section. (2000) as value that a customer perceives in different aspects of the supplier’s offering. 2001. above and beyond its objectively perceived value’. 1996). Blattberg et al. 1993). (1997: 497) declare that ‘satisfied customers are assets who represent long term value to an organization’. 2008) and the cell phone operator market (Sublaban and Aranha. Value equity is defined as ‘the customer’s objective assessment of the utility of a brand. such as brand switching (Rust et al. We thus see that value. Hogan et al. which allows firms to select an appropriate approach or different combinations.. 2004b). brand equity and retention/relationship equity. Berger et al. 2000: 56–7). various other models have been proposed. These customer assets are managed by the firm by engaging in marketing activities that affect customer perceptions and behaviour. Rust et al. Berger et al. i. are not actual components of customer equity. personnel training. as illustrated in Figure 1. but rather drivers of customer equity. Hogan et al. Hogan et al.com by guest on February 14. the function of marketing and of customer relationship management as a process is to manage the customer assets so as to maximize their value (customer equity). Drivers and components of customer equity Using the distinction between customer assets and customer equity allows us to clarify the drivers and components of customer equity. The components Downloaded from mtq. we propose the following definitions: Customer assets are the relationships that a firm has with its customers. is simply a measure of the value of the customer relationship assets that are managed (Blattberg and Deighton. we examine the drivers and the components of customer equity. alongside liabilities. appears on the righthand side of the balance sheet and is related to the financing decision. which contributes to shareholder value (cf. 2007. (2000). product/service development.e. Thus.. they are connected to the concept of customer-perceived value of a product/service. These three types of equity are viewed as the customer’s evaluation of value. and as such are not directly concerned with the equity created for the supplier (cf. how funds should be allocated over time in order to increase shareholder wealth. Using the analogy of customer relationships as assets. Kumar and Shah. and relationship equity. 2009).. or in other words value that a customer gains from an exchange relationship with a supplier.e. Equity. These drivers and components fit into a customer equity framework. brand equity and retention equity. 2002). (2000). or relationship. Brodie et al. Customer equity is the value of those customer assets. 2002b. Customer relationships – the assets – are on the left-hand side of the diagram. Rather. Rust et al. 2006. Bick. 2004b). 2009. Kumar and George. meanwhile. it is more accurate to refer to the management of customer assets (in order to maximize customer equity) rather than to refer to the management of customer equity itself.. drivers of the value of customer assets. brand. 2002a. as conceptualized by Rust et al... Meanwhile. how to generate funds. In the next section.Persson and Ryals 421 Customer equity. 2004a: 78). It is important to recognize that value. Customer equity – the measure of value – is on the right-hand side of the diagram. Hence. who use the word ‘equity’ when what they are in fact doing is conceptualizing the drivers of customer equity. The use of the terms ‘asset’ and ‘equity’ in the fields of accounting and finance can help to clarify their use in marketing.e. 1996. 2006: 367. brand.sagepub. Therefore. which are the drivers of customer equity.. This distinction enables us to avoid the confusion that may occur when the term ‘customer equity’ is used to refer both to the customer asset and to the value of that asset (cf. it can be said that firms need to invest in these relationships through marketing activities. the potential value created by the investments in all of the firm’s customer relationships (the sum of the customer lifetime values) is customer equity. namely value equity. This need to invest is an intangible liability.. Assets traditionally appear on the left-hand side of the balance sheet and are related to the investment decision. i. The notion of the management of customer assets as a process is illustrated by Rust et al. 2012 . i. Brodie et al. etc. whereas the customer relationships themselves are intangible assets that are invested in and managed. . Marketing activities can be used to drive profitable customer behaviour directly or indirectly by enhancing customer perceptions. Furthermore. Kamakura et al. a firm naturally needs to continuously measure its customer equity. Drivers of customer equity A review of the customer management literature suggests that the drivers of customer equity fall into two categories – customer perceptions and customer behaviour – which Gupta and Zeithaml (2006) classify as unobservable and observable constructs respectively.. In order to increase its customer equity.g. WACC) balance New customer acquisition Additional potential Customer profitability distribution Customer portfolio diversification Drivers of Customer Equity Components of Customer Equity Figure 1. Rust et al. 1994. Heskett et al. brand equity and relationship equity overlap the concepts of customer satisfaction and attitudinal loyalty to a great extent. and relationship equity is very similar Downloaded from mtq. Drivers and components of customer equity of customer equity and CLV are affected by the firm’s management of its customer assets and the subsequent changes in the drivers of customer equity.422 Marketing Theory 10(4) MANAGEMENT MEASUREMENT Customer Assets (customer relationships) Perceptions Behaviour Length (duration) / behavioural loyalty Depth (purchase frequency. brand equity is comparative to subjective satisfaction with various aspects of the brand.g. Value equity resembles objective satisfaction with the firm’s offering.g. Fornell et al. upgrades) and patronage concentration Breadth (cross-buying) Intensity and channels of interaction Risk Attitudinal loyalty Referral behaviour Contribution to learning and innovation CLV Customer Equity Value equity Brand equity Relationship equity Customer satisfaction Projected customer lifetime (e. For example the service–profit chain (e.com by guest on February 14. retention rate) Cash flows. 2002) links service quality to customer satisfaction. profits or contribution to profit (revenues costs) Discount rate (e. The most widely discussed customer perceptions that have been found to drive profitable customer behaviour are satisfaction and attitudinal loyalty. (2006) show a positive correlation between firms’ scores on the American Customer Satisfaction Index (ACSI) and their stock prices. 2012 . in addition to the behavioural one. Reinartz and Kumar (2002) find that the attitudinal element of customer loyalty (a subjective measure).’s (2000) categorization of customer perceptions into value equity.sagepub. loyalty and profitability. is a crucial determinant of customer profitability. Kumar et al. Similarly. and how (cf. In the following section. 2002). The issue of customer-related risk has also been discussed in connection with the value of customers. Ryals (2008a) demonstrated substantial indirect benefits from customer referrals and references.. Gupta and Lehmann. we will move on to consider the components of customer equity in more detail. depth (increased usage/upgrading) and breadth (cross-buying). numerous variations and extensions appear in the marketing literature. brand and relationship equity. by extension. The relative importance of the various drivers of customer equity. 2004b). Ryals et al. it is thus important to consider which aspects of the relationships are actually creating value for the firm. Furthermore. Customer behaviour can be affected either by actions aimed at improving customer perceptions.g. 1997.. The CLV of an individual customer is typically comprised of the projected lifetime of the customer’s relationship with the firm. Kumar and Shah (2009) demonstrated that the relationship between a firm’s customer equity and market capitalization is moderated by the volatility and vulnerability of cash flows from customers. Rust et al. Furthermore. and finally the impact on customer equity. 2005) or contribution to profit (e.com by guest on February 14. 1998. will vary depending on the industry and on the company. as well as taking individual customer risk into account. customer equity draws on the discounted cash flow (DCF) approach used in finance. Jain and Singh. Although these are the core components of CLV. and a discount rate (Berger and Nasr.. the importance of using a firm’s weighted average cost of capital (WACC) for the discount rate. 2005) with the firm. the subsequent effect on customer switching behaviour. Another aspect is the customer’s patronage concentration (Storbacka. (2006) and Jain and Singh (2002). Rust et al. 1994. (2007) found that the referral value of customers is often higher than their lifetime value. The volatility of cash flows from customers has also been found to affect the relative value of customers at a customer base (or portfolio) level (Dhar and Glazer. Bolton et al. that there are two key differences between Downloaded from mtq.. 1994) or share-of-spending (Keiningham et al. 2003. both customer perceptions and behaviour. and moving the customer to cheaper interaction channels.sagepub. often expressed as a retention rate. 2007). Gupta et al. Useful reviews of different types of CLV models are provided by Gupta et al. or by marketing activities that aim at changing customer behaviour. as well as the risk of a total or partial loss of the customer relationship (Ryals and Knox. For example common alternatives to cash flows are profits (e. (2006) point out. 2000). Storbacka et al. CLV and.g. 2005). For example Storbacka (1994) identifies two different ways in which firms can seek to change customer behaviour in order to decrease customer-related costs: decreasing the intensity of a customer’s interactions with the firm. Several other facets of customer behaviour that affect the value of the customer asset are mentioned in other studies.Persson and Ryals 423 to attitudinal loyalty. (2004b) provide a framework that allows firms to evaluate the effect of various marketing activities on value. For example the risk in revenue streams and the costs to serve a customer (Ryals and Knox. however. When referring to the value of customer relationships. the cash flows the firm expects to receive from the customer in each future period. as well as customers’ contribution to a firm’s learning and innovation. usually defined as the sum of the lifetime values of a firm’s customer relationships. behaviour driving the indirect value of customers has recently been receiving increasing attention. Rust et al. (2004: 274) classify customer behaviour that affects the value of the customer asset into three categories: relationship length (duration). 2012 . 2007) have been highlighted. is highlighted by Ryals and Knox (2007). Components of customer equity Customer equity measures the total value of customer assets. Finally.. com by guest on February 14...424 Marketing Theory 10(4) CLV and traditional DCF. The success of a firm’s efforts to increase customer lifetimes and cash flows. Indeed. 2009. Specifically.. 1998). firms invest their limited resources in marketing as well as other activities to establish. The costs and likely success rates of acquiring different types of new customers also need to be taken into account. 2003. Stahl et al. This fits well with Rust et al. 2003. In effect then. are clearly affected by customer relationship management efforts. 2005) could serve as a useful indicator of customer base risk.. the balance between customer acquisition and retention is a key determinant of customer equity (Blattberg and Deighton.. For example it is widely recognized that cross-selling increases behavioural loyalty by increasing switching costs while at the same time enhancing cash flows from customers as they purchase/use a wider range of products/services (Reinartz and Kumar. CLV explicitly incorporates the possibility for future customer defection. Srivastava et al. 2005). adopting a version of the DCF asset valuation technique from finance appears logical. With regard to the components of customer equity. as the cash flow from customers becomes less susceptible to competitive activity (Anderson et al. a firm’s success in customer acquisition is affected by the perceptions and referral behaviour of its current customers (Villanueva et al. two of the key tasks in the management of customer relationships are to extend the lifetimes of customers and to increase the cumulative cash flows from customers during their lifetimes (cf. In addition. Moreover. meanwhile. Second. or through the way they are managed. If customer relationships are considered to be assets that firms invest in. Ryals (2008b) emphasizes the need to include additional potential that could be obtained through changes in specific customer segments. The third main component of customer equity. in order to maximize the return on these investments in the form of maximized customer lifetime values and customer equity. Venkatesan and Kumar. as could the volatility and vulnerability of cash flows from customers (Dhar and Glazer. since a value can then be derived that estimates the present value of the cash flows generated by the customer relationship over its lifetime. Two of the main components. 2012 .. 2004.’s (2004a: 78) contention that marketing expenditures are investments and that ‘marketing assets represent a reservoir of cash flow that has accumulated from marketing activities but has not yet translated into revenue’. 2007. 2007) and the discount rate. Storbacka. Downloaded from mtq. van Raaij. First. allowing differentiation between customers based on profitability. discounted at the appropriate required rate of return. loyalty and retention lead to a reduction in the volatility of sales and earnings. 1996. 2007. Bolton et al. 2004). This in turn reduces the firm’s cost of equity capital (Harrison-Walker and Perdue.. With regard to customer equity calculations.sagepub. can also be affected by management of the customer equity drivers. Ryals et al. 1994. the profitability distribution across the customer base (Ryals and Knox. is manifested through changes in the perceptual and behavioural drivers of customer equity. 2003). increases in customer satisfaction. although not generally considered as a component of customer equity. 2004). CLV is usually estimated at an individual customer or segment level. Reinartz et al. Impact of customer equity drivers on customer equity components There are numerous ways in which the components of customer equity can be impacted by its drivers. the projected lifetime of a customer relationship and the cash flows that the firm expects to receive from the customer. Much marketing effort is aimed both at lengthening customer relationships and at increasing cash flow. 1997. the discount rate. maintain and enhance relationships with customers. Kumar and Shah. typically through a retention rate. 2007. Rust et al. Ryals. Several studies have provided empirical support for the successful use of CLV (e. Reinartz et al. it is puzzling why customer equity has not already gained wider acceptance among marketing managers or.sagepub. among shareholders.. These findings demonstrate that historical customer behaviour and value are not very accurate predictors of future value.g.. The focus of customer equity calculations in this context is to facilitate decision making with regard to optimal resource allocation in the management of different customer relationships. Ryals. Sublaban and Aranha. Reinartz et al. we review these from the perspective of marketing academics and managers. 2004. 2007). Finally. 2005. as a key performance metric. 2005. 2012 . a few studies also raise concerns regarding their accuracy and practical usability.. Berger et al. Kumar et al. the profitability distribution and diversification of the customer base (viewed as a portfolio) can also be affected by changing perceptions of the firm among existing and potential customers that will influence the acquisition and retention of customers (cf. 2008. Venkatesan and Kumar. approximately 55 per cent were misclassified (and did not receive special treatment) while approximately 15 per cent of the future bottom 80 per cent were misclassified (and received special treatment). Campbell and Frei (2004) similarly found that a substantial amount of variation in the future profitability of customers of a financial services firm was left unexplained by current profitability. Dhar and Glazer. Given the considerable body of marketing literature. 2002.. Nevertheless. Limitations of CLV and customer equity Several limitations of customer lifetime value/customer equity metrics have been suggested. Downloaded from mtq.com by guest on February 14. as conceptualized by Ryals (2008b).. 2009. Bolton et al. that of the top 20 per cent of customers. 2005. Donkers et al. Ryals.g. Reinartz and Kumar. although conceding that they may be useful for planning and could be included in a set of multiple performance metrics forming a dashboard. 2004b. Furthermore. 2003. highlighting the uncertainty inherent in CLV calculations.. indeed. and then from the perspective of those academics working on the marketing/finance interface. 1996. For example Malthouse and Blattberg (2005) found in a study of four firms that allocated resources based on CLV.. Marketing management perspective Most of the previous research related to customer equity has been concerned with measuring customer equity for internal management purposes (e. 2005. We have argued the need for greater clarity in marketing theory between customer assets and customer equity as one issue. 2004) and customer equity (e..Persson and Ryals 425 2008). 2004b. Hanssens et al. Dhar and Glazer. Blattberg and Deighton. Ambler (2006: 27) has also addressed several weaknesses associated with DCF-based techniques such as customer lifetime value and. Rust et al. which in turn affects the drivers of customer equity. additional potential. 2004). However.g. 2005. Tirenni et al.. 2003. Ambler and Roberts (2008) maintain that no variant of DCF should be used as the sole ‘silver metric’. 2006. is by definition achieved through changes in the management of customer relationships. 2008. Venkatesan and Kumar. 2003). there are also certain limitations relating to the practical application of customer equity which we will now examine. (2005: 13) argue that ‘many people use these terms interchangeably and loosely. especially in the marketing literature. 2008). Gleaves et al. Thus. Guilding and McManus. (2008: 836) concur. Pfeifer et al. With regard to the terms CP. CLV and CE. it is critical to clearly define the elements to be included in the measures. Hence. and customer equity (CE) are often not recognized as distinct concepts.426 Marketing Theory 10(4) Marketing/finance interface perspective From a finance perspective.. the measurement of customer equity. Unfortunately. the lack of finance interest in CLV and customer equity appears to be due to reservations regarding the reliability of these measures. (2008) make a case for including customer equity statements in the management commentaries of firms’ financial reports. Weir. Without the called-for collaboration with the accounting and finance disciplines (Gleaves et al. Whitwell et al. IASB. which can become blurred with CP including the terms CLV and CE which should have very specific meanings. ‘Customer value’ becomes ‘‘profit’’.sagepub. Foster et al. a lack of understanding and clear use of such terms’. in the marketing literature. terminological confusion in the marketing field has hindered the acceptability of some of these key metrics as far as finance academics and practitioners are concerned (Gleaves et al. However. marketing is unlikely to develop customer valuation measures that will be accepted as reliable enough for financial reporting purposes. (2008: 839) claim that ‘the marketing literature suggests.. investors and possibly other stakeholders (Gupta et al.. Blattberg et al. they provide Downloaded from mtq. 2008. and to agree upon a consistent usage of terms. 2001). there are additional terms. and that the metric itself becomes ‘‘messier’’ as it becomes more steeped in financial calculus’. customer lifetime value (CLV).e. Lev. The reported aim of including these statements is to answer the calls from the finance community (e. 2006). 2008). rather than the management of customer assets (i. There is also some vague use of costing terms in the marketing literature where collaboration with management accounting (MA) specialists should lead to greater clarity.. 1994.. customer relationships) is the key issue. the use of ‘silver metrics’ is arguably as questionable for external financial reporting as it is for internal customer management purposes. 2002). and their calculation. as pointed out by Jain and Singh (2002). 2005.. 1989. customer profitability (CP). Although the concept of customer profitability has received some attention in the management accounting literature (Bellis-Jones. Foster and Gupta. stating that the actual usage of the term CP varies considerably and.com by guest on February 14. 2007) for more transparency in financial reporting of intangible assets in order to assist investors’ decision making. Although customer equity and its components are useful indicators of the success of a firm’s marketing and customer management. 2000. 2001. Wiesel et al.. For example Weir (2008: 805) states that ‘what can readily be seen from this is that it becomes increasingly complicated to determine a CLV figure. Customer equity in financial reporting This lack of credibility is all the more concerning because customer equity has demonstrable potential as a financial metric and could be of great interest to potential shareholders.g. including the components of customer equity and changes in value over time (cf. which becomes ‘‘company’s profit’’’. They propose that customer equity statements should include the value of the customer base. ˜ Canibano et al. 2012 . Gleaves et al. from an accountant’s perspective. 1996. Customer equity is not only of interest for customer relationship management purposes within the firm. but also for firm valuation purposes by an external audience consisting of financial analysts. the appendix to the discussion paper (IASB. are insufficient measures for marketing managers who aim to manage customer relationships to maximize long-term cash flows. some parts of the finance community may actually prefer qualitative customer information rather than quantitative customer metrics. how they are likely to affect the performance and value of the business and how they are managed’. 2012 . although valuable.com by guest on February 14. 2008). Forward-looking information should focus on qualitative information. the reporting of both the drivers and the components of customer equity is implicitly supported by the finance community. we propose how companies could develop a Customer Equity Scorecard that would provide this information to shareholders and potential investors. the drivers and components of customer equity clearly fit this description. 130 and 135) risks related to customers (§ 128) customer loyalty (§ 138) penetration (number of products purchased per customer) (§ 138) customer churn rates (§ 146) acquisition costs (§ 146) average revenue per user (§ 146). A range of customer metrics related to customer equity should be reported for the sake of objectivity and Downloaded from mtq. Thus. the finance community is calling for the inclusion of a diverse set of customer metrics in management commentaries on financial reports. the most prolific response from the marketing community has proposed customer equity as the most suitable candidate for inclusion in financial reports (Wiesel et al.sagepub. 2006: 3) In summary. The IASB discussion paper on management commentaries published in 2005 specifically mentions many of the recognized drivers and components of customer equity as measures that could be included in management commentaries: customer satisfaction levels (§§ 121.. Sidhu and Roberts (2008: 682) emphasize that ‘from a financial analyst perspective. but they should present information about those aspects and events for the year under review that could be relevant in assessing future prospects. However. At the same time. To date. The Customer Equity Scorecard Based on the discussion above.Persson and Ryals 427 an incomplete view. Investors are likely to gain a more meaningful insight into a firm’s future potential if management commentaries of financial reports also contain information on the drivers of customer equity (see Figure 1). For example in a response to IASB 2005. the finance community is calling for more meaningful disclosure of customer-related information. 2005: § A42) states that ‘management should include information about key relationships the business has in place. (AFRAC. some academics are starting to recognize that CLV and customer equity. In the next section. Furthermore. the Austrian Financial Reporting and Auditing Committee (AFRAC) state that: companies should not be obliged to present quantitative forecasts or give projections. In fact. intermediate constructs must be related to value downstream and marketing activity upstream’. it appears that the inclusion of a section in financial reports where customer relationships and their management are discussed would be useful for investors. For each item on the scorecard. Nevertheless. For example components of customer equity (and changes in these). it would also be possible to report the various customer equity drivers and components over several time periods. That said. changes in value. it aims to illustrate the usefulness of including the two categories of customer equity drivers — customer perceptions and behaviour — as valuable items that complement the components of customer equity. 2012 . First. If the firm provides all the necessary information. However. could be an indicator of future expectations with regard to revenues. meanwhile. which should be reflected in changes in customer behaviour. nonresponse bias is definitely an issue for which researchers are still attempting to develop remedies (Kreuter et al. if they wish. Finally. there is a risk that bias is introduced in the measurement of various items on the scorecard. Improvements in attitudinal loyalty. Finally.sagepub.428 Marketing Theory 10(4) maximum provision of useful information. on the other hand. it might be necessary to compare scorecards over time to gain deeper insights regarding the firm’s ongoing and potential Downloaded from mtq. Naturally. such as average customer revenue. and the current position of the firm. Finally. 2010). we propose a Customer Equity Scorecard (Table 1). costs and customer retention. However. these data will not give stakeholders any insight regarding why certain components increased or decreased. including future projections. For example in the case of using surveys to measure customer perceptions. the external audiences can. will provide stakeholders with information on the effects of a firm’s efforts to increase customer equity. Depending on the market situation. potentially shed some light on these issues. as well as the data required to actually calculate customer equity. and acquisition and retention rates. it may be difficult for them to measure certain of the drivers and components of customer equity on an annual basis.com by guest on February 14. Based on the drivers and components of customer equity (Figure 1). various methods to account for biases are available. even make their own customer equity calculations of the firm. meanwhile. for example non-response weighting is commonly used in order to correct for variations in the probability of selection (cf. and due to lagged effects. even in industries with long sales cycles for goods.. The Customer Equity Scorecard has a number of limitations. 2004b). would signify greater potential for behavioural loyalty. Once a standardized system of measures is in place. Rust et al. we have listed the data source and identified how it is related to the future earnings potential of the firm. which affect its applicability in practice. brand and relationship equity would indicate the firm’s success in improving different aspects of its offering. companies often maintain ongoing relationships with customers through the provision of services. The behavioural drivers. For example higher satisfaction scores may explain positive changes in buying and referral behaviour. costs.. where companies have long sales cycles or a small customer base. A change in the risk profiles of customers. Improvements in customer acquisition could be explained by a greater number of referrals. different metrics will be of varying importance. or what future developments may be expected. it is possible that the data in the proposed scorecard could lead stakeholders to different conclusions. Data on the average length of customer relationships would show whether the firm’s current customer base consists of mainly long-term or short-term customers. as the firm would not have to rely solely on inertia or high switching costs to retain customers. but financial analysts and investors should be capable of determining which weights they assign to the different metrics when undertaking their assessment of the value of the firm’s customer base. such as heavy machinery or automobiles. For example changes in revenues and costs may be explained by changes in customers’ buying behaviour. Second. management can provide guidance in the commentary regarding its view of the currently crucial measures. greater insight into the behavioural drivers of customer equity can also be conveyed by reporting the perceptual drivers of customer equity. The scorecard in its current form is not a standardized solution. industry characteristics. . patronage concentration. cross-buying. Srivastava et al.. Rust et al. 1998) and discount rate (Harrison-Walker and Perdue. 1998) and discount rate (Harrison-Walker and Perdue... 2003) (continued) 429 . 2007) Positively correlated with behavioural loyalty.. 2004b) Negatively correlated with risk (Anderson et al. 2005) Positively correlated with customer revenues and retention (Reinartz and Kumar.. retention (Loveman. 2012 Customer behaviour Behavioural loyalty (average length of customer relationships) Database Database Survey/ database Database Database Survey/ database Average number of purchases Average patronage concentration/share-of-spending Average number of different products/ services bought/held Average customer risk score Number of customers acquired by referral Positively correlated with retention (by definition) Negatively correlated with risk (Anderson et al. customer revenues and future referral behaviour (Villanueva et al. 2002) and referral behaviour (Reinartz and Kumar.. 2008) Negatively correlated with acquisition expenditures (Stahl et al... 2004. 1996. Customer equity scorecard for financial reporting purposes Customer equity (CE) driver/component Data source Survey Implications for future earnings potential of the firm Customer perceptions Value equity Brand equity Relationship equity Survey Customer satisfaction Attitudinal loyalty Survey Positively correlated with behavioural loyalty. 1998) and referral behaviour (Verhoef et al. 2007) Positively correlated with behavioural loyalty. 2004) Positively correlated with discount rate (by definition) Positively correlated with acquisition rate (Stahl et al. Srivastava et al. 2004..sagepub. 2003. 1998) and discount rate (Harrison-Walker and Perdue... Srivastava et al. Venkatesan and Kumar. retention (Kamakura et al. purchase frequency. retention and acquisition of new customers (Danaher and Rust. Srivastava et al. 2004. 2004. 2003). patronage concentration. 2002) Negatively correlated with risk (Anderson et al.com by guest on February 14. 2002) Negatively correlated with risk (Anderson et al.. 2007) Positively correlated with customer revenues (by definition) Positively correlated with customer revenues (by definition) and retention (Perkins-Munn et al. 2007) Downloaded from mtq..Table 1. 1998) and discount rate (Harrison-Walker and Perdue.. WACC) Downloaded from mtq. 2012 Customer base profitability distribution Customer portfolio diversification Database Higher dependence on profits from a smaller number of customers (¼ higher risk) positively correlated with discount rate (by definition.sagepub. Dhar and Glazer. Storbacka.g. cf. Negatively correlated with CLV and customer equity (by definition). 2003) .430 Data source Database Database Database Database Database Database Database Estimated or determined by borrowing costs Database Implications for future earnings potential of the firm Positively correlated with customer equity (by definition).com by guest on February 14. cf. 1994) Negatively correlated with customer equity (by definition) Optimization of investments across the customer base (¼ higher risk-adjusted return) positively correlated with customer equity (by definition. Positively correlated with CLV and customer equity (by definition) Negatively correlated with CLV and customer equity (by definition) Inverse of retention rate (by definition) Positively correlated with CLV and customer equity (by definition) Negatively correlated with CLV and customer equity (by definition) Negatively correlated with CLV and customer equity (by definition) Table 1 (continued) Customer equity (CE) driver/component CE components Acquisition rate Acquisition expenditures per customer Retention rate Retention expenditures per customer Churn rate Average customer revenues Average customer costs Discount rate (e. rather than continuing on the quantitative path and attempting to value customer assets and include customer equity in a firm’s financial reporting as suggested by Wiesel et al.sagepub. marketing managers make use of qualitative data and of heuristics rather than detailed analyses of customer lifetime value or customer equity. and they are also becoming increasingly qualitative. and. In reality. Roslender and Wilson. on the one hand. in order to provide information that can be used by investors and other external audiences to predict the future earnings potential of the firm. on the other hand. Many CEOs feel that their future potential. These heuristics guide their perceptions of the value of customer assets and are used to develop strategies to manage customer relationships. the management of customer assets and the drivers of customer equity. and terms (such as assets and equity) from finance and accounting. 2012 . a few issues should be considered here. in marketing’s eagerness to demonstrate its impact on shareholder value and to grab a seat in the boardroom. based particularly on their ability to leverage various types of intangible assets. there is a clear risk that companies abuse this possibility by using creative methods of measuring the performance of their Downloaded from mtq. Based on this analysis. P2: In companies where marketing makes use of customer lifetime value or customer equity calculations to determine customer management strategies. a more fruitful exercise would be to seek to determine how and to what extent various aspects of customer relationships and their management can be reported. 2008). To this end. thereby preventing any further erosion of its influence within the firm. is not fairly reflected in their share prices. 2008. First. Conclusions and future research directions Marketing. However. (2008). the measurement of customer equity and its components. accounting and finance are not such precise disciplines as might be imagined. The potential positive implications of including customer equity drivers and components in financial reporting are not only limited to more well informed firm valuations by an external audience. Qualitative descriptions by management to complement the data in the scorecard could enhance the meaningfulness of the reported measures. has recently afforded increasing attention to techniques (such as DCF).Persson and Ryals 431 future performance. we have argued the case for a clear distinction between. The concretization of the intermediate and financial outcomes of customer relationship management efforts in financial reports will also enable marketing to demonstrate accountability. However. it has placed a misguided focus on aggregate financial metrics such as CLV and customer equity. Such firms could attempt to provide greater transparency to the investor community by including more detailed information on the performance of the firm’s intangible assets in their financial reports.com by guest on February 14. marketing is seen as more accountable than in organizations that do not make use of such measures. The provision of these metrics in the management commentaries of financial reports would also more directly answer the call from the finance community for more transparency in financial reporting of intangible assets in order to assist investors’ decision making. Identification of the drivers and components of customer equity not only serves marketing managers in their efforts to manage customer relationships profitably. we suggest two propositions that might guide future research into customer lifetime value and customer equity: P1: In practice. in its quest for accountability. Hence. with the development of for example behavioural finance and calls from accounting for further development of ‘narrative reporting’ (Ambler and Neely. apparently assuming that ‘this is the only language that finance and accounting speak’. 2012 . Brands and networks could be other dimensions on such a scorecard. In summary. We have in this paper suggested a set of customer metrics that could be included on a customer dimension of such a scorecard. gratefully acknowledges the financial support provided by the Finnish Center for Service and Relationship Management (FCSRM) and Liikesivistysrahasto – Foundation for Economic Education. The authors also extend their thanks to the two anonymous reviewers for their valuable comments.’s (2002. P4: A customer equity scorecard would be a useful indicator of shareholder value for investors and analysts. brand equity. in order to provide financial analysts and investors with sufficient information to make decisions while at the same time allowing firms to be held accountable for the management of their customer relationships. Ambler. Ambler.432 Marketing Theory 10(4) customer relationships and other intangible assets. (2006) ‘Don’t Cave in to Cave Dwellers’. 2009). J. 2006) arguments for the integration of the concepts of customer equity. but may also include potential customers. in line with Brodie et al. and Neely. Such supplemental reporting should include both qualitative and quantitative data and could take the form of a scorecard. (2008) ‘Assessing Marketing Performance: Don’t Settle for a Silver Metric’. Downloaded from mtq. (2008) ‘Narrating the Real Corporate Story’. Further research could investigate the feasibility and usefulness of including these and various other dimensions on a scorecard. this paper has offered a contribution to marketing theory by bringing added clarity to the literature on customer assets and customer equity. T. References AFRAC (2006) Comment Letter: Discussion Paper: Management Commentary. the proposed Customer Equity Scorecard contributes to a bridging of the gap between marketing theory and financial theory with regard to customer equity-related issues.com by guest on February 14. Second.sagepub. Ambler. Andreas Persson. industry-wide measures (cf. Business Strategy Review 19(2): 28–32. It thereby also provides the foundation for further meaningful theoretical development on the management of customer assets and the measurement of customer equity. rather than attempting to include customer relationships and other intangible assets on the balance sheet. and to Liz Parsons for her editorial guidance. Note 1. Stewart. and Roberts. Acknowledgements The first author. In addition. Thus. This risk could be neutralized by the introduction of standardized. Journal of Marketing Management 24(7–8): 733–50. our third and fourth propositions to guide future research: P3: A customer equity scorecard would be a useful managerial tool for marketing. T. Customer equity can be regarded as the sum of the lifetime values of a firm’s customers. based on its potential to utilize its capabilities to leverage its various tangible and intangible assets. 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