Back in 2001, Bain & Company (who invented the Net Promoter Score), found that improving customer retention by 5% can increase profits by up to 95%.
Customer loyalty, then, is gold dust — especially to smaller businesses who may lack the resources to undertake expensive acquisition campaigns.
One of the most tried and tested ways to foster customer loyalty — with the earliest example coming from 1793 — is through loyalty programs.
Loyalty programs can vary greatly, but they can broadly be defined as strategic marketing approaches to encourage repeat customers by rewarding them with perks or incentives — with the aim of boosting customer retention and fostering a stronger relationship between the consumer and the brand.
These rewards can take many forms: discounts, exclusive deals, early access to sales and products, or points that can be redeemed for products or services.
Whatever the form, the underlying principle stays the same: to incentivize customer loyalty, improve engagement, and ultimately increase profits.
For brands, the benefits of loyalty programs are many and well established. Not just as a retention tool — as enormous as those benefits can be — but also for acquisition: 75% of customers would switch brands for a better loyalty program.
So let’s dig a little deeper into how a loyalty program could help your brand — and how you can get yours off the ground.
Table of Contents
In this article
- The benefits of creating a loyalty program
- The benefits of loyalty programs for your customers
- Types of loyalty program
- Creating a customer loyalty program
- Measuring success
- Calculating the cost (and ROI)
- Loyalty program risks — and how to solve them
The benefits of creating a loyalty program
1. Loyalty programs help you stop competing purely on price
Today, it’s too easy for discerning shoppers to compare hundreds of prices in just a few clicks. If they’re only thinking about the products you sell instead of your store and brand, then you’ll find yourself in a pricing race to the bottom. And it’s the larger stores like Amazon that’ll win.
One of the biggest benefits of customer loyalty programs is that they can stop you from needing to compete on price alone. By connecting with your customers’ emotions, it gives you a way to set your store and your brand apart – offering a much more enhanced (and personal) customer experience.
Let’s elaborate on that.
Studies show that when a customer makes a purchase, the decision is highly emotional. Do you sell products that people buy through desire rather than necessity? If so, it’s crucial you appeal to their emotions.
Customer loyalty benefits are a highly effective way to surprise and delight those who shop with you – rewarding them for something that previously went unnoticed.
Each time you reward a customer, you’ll appeal to their emotional side. By doing that, you start building a bond. As that develops, they see you as more than a range of products. In turn, it strengthens their loyalty – encouraging repeat purchases that boost your profits.
2. Improve retention and reduce churn
You can’t overstate the importance of retention. Not only does it lead to higher revenues — loyal customers spend 67% more on average than new ones — it’s also five times cheaper to retain your existing customers than to acquire new ones.
So, if your business has a high churn rate — that is, the proportion of customers who stop doing business with you over a given period — you’re missing out on high-value, low-cost custom.
Companies like Starbucks have mastered this with their Starbucks Rewards program, where customers earn points (‘stars’) for each purchase, which can be redeemed for free drinks and food items. This encourages repeat custom, improving retention and reducing churn.
3. Increase CLV (customer lifetime value)
Customer lifetime value (CLV) is the net profit attributed to the overall relationship you maintain with a customer. It tracks how valuable a customer is to you now – and how much this ongoing bond might be worth in the future.
Loyalty programs improve CLV by increasing the average order value and the purchasing frequency of your customers. Your customers will be spending more money, more frequently, and staying with you for longer too.
With LoyaltyLion’s customer loyalty program software, you can work out exactly what the CLV is for each of your customers. With all the stats we provide, you can create solid strategies to retain your customers for longer.
4. Turn customers into brand advocates
By rewarding customers who promote your business to other people, you can also turn your loyalty program into a powerful acquisition channel.
Loyalty programs often include referral bonuses that can turn customers into brand advocates. Dropbox, for example, grew exponentially using their referral program, which offered additional storage space for both the referrer and the referred.
Some loyalty programs award points not just for purchases, but for activities that indirectly benefit the company. For example, TOMS Shoes rewards customers for social shares and content engagement, creating a symbiotic relationship in which customers get rewards and the company enjoys word-of-mouth promotion.
5. Increase purchase frequency
Loyalty programs stimulate increased buying frequency, particularly for low-margin products with shorter sales cycles.
The classic example here is coffee shops: customers are more likely to make more frequent purchases of takeaway coffee if they know they’re building up loyalty rewards by doing so. For example, McDonald’s McCafé Rewards program, which offers a free beverage after the purchase of five, motivates customers to return more frequently to the free reward.
LoyaltyLion features, such as Loyalty Tiers, are especially effective when it comes to increasing purchasing frequency. In the example below, we can see that REN Clean Skincare offers increasing benefits to their customers who have spent enough to hit the higher tiers.
Tiering loyalty benefits this way motivates customers to purchase more frequently in order to qualify for the higher tier perks.
6. Improve average order value
As well as increasing the frequency of purchases, loyalty programs can increase the value of each purchase.
For example, Nordstrom’s The Nordy Club program offers members more points per dollar spent during their ‘bonus points events,’ incentivizing customers to spend more per transaction.
7. Gather more customer data
Loyalty programs are excellent tools for gathering customer data. Every interaction, from purchase history to reward redemption patterns, offers insights into customer behavior.
You can also reward your customers for sharing specific data with you, for example offering birthday rewards whereby you send your customer a treat on their birthday in exchange for them sharing their birthday date with you.
This data helps brands make more informed marketing and strategic decisions.
8. Even out seasonality
Most businesses experience seasonal fluctuations in sales, and it can be a challenge to drive up revenue in the quieter months. Loyalty programs can help counterbalance these fluctuations by offering special rewards or promotions during off-peak periods.
For instance, travel businesses like airlines or hotels might offer double points for bookings during their low season to encourage travel during these times.
9. Improve communication and strengthen your brand
Finally, loyalty programs can enhance your brand and improve customer communication.
Regular updates about rewards, exclusive offers, and events provide touchpoints to engage with customers, fostering a stronger brand-customer relationship.
With LoyaltyLion’s Klaviyo integration, brands can easily send personalized emails and text messages to their customers following certain triggered events – for example, qualifying for a new loyalty tier.
The benefits of loyalty programs for your customers
Loyalty programs are great for your business — but they’re also great for your customers.
And the better you understand the benefits of loyalty programs for your customers, the better you can tailor your loyalty program to their needs.
Savings and rewards
The most obvious benefit to customers: through discounts, redeemable points, and VIP perks, loyalty programs help shoppers to save money. Many brands offer special perks like free shipping or free returns to their most loyal customers so that they can provide them with even more value.
Exclusive access and perks
But loyalty programs aren’t just about discounts — and it’s often best for your business if they aren’t —loyalty programs can also often offer exclusive perks that enhance the customer experience.
This can include early access to new products or sales, special members-only events, and preferential customer service.
For instance, members of Nike’s loyalty program, Nike Membership, get exclusive access to select products before they are released to the public.
With the data collected through loyalty programs, businesses can offer personalized recommendations and promotions that cater to individual customer preferences.
Amazon Prime members, for instance, receive personalized recommendations based on their browsing and purchasing history, which can help them discover new products that align with their interests.
A sense of fun!
Loyalty programs often involve elements of gamification — earning points, reaching new membership levels, completing challenges — which can make things more engaging. For example, Starbucks Rewards uses a tiered system where customers “level up” to achieve Gold status.
By introducing gamification into your loyalty program, it creates an experience that is genuinely fun for your customers.
A feeling of belonging
Done right, loyalty programs create a community of customers who share your values.
For example, Patagonia’s Common Threads Initiative gives customers a sense of being part of a community of like-minded individuals committed to reducing environmental impact.
The four types of loyalty program — and the benefits of each
There are four main types of loyalty program — points-based, value-based, tiered and subscription-based. Each has its own pros and cons.
Points-based (“earn and burn”)
Points-based loyalty programs, sometimes called “earn and burn” programs, are perhaps the most common type. Customers earn points based on their purchases, which can later be redeemed for rewards or discounts.
For example, Sephora’s Beauty Insider program allows customers to accumulate points for every dollar spent. These points can later be “burned” or exchanged for a variety of rewards, including discounts and exclusive products.
Advantages of points-based programs include simplicity and directness — they’re easy to understand, and easy to get involved in.
On the other hand, customers may become disengaged if they feel their points are losing value or if earning a worthwhile reward takes too much effort or expense.
Value-based loyalty programs
Value-based loyalty programs are a bit like points-based ones, but they don’t just reward customers for the money they spend.
Instead, rewards are based on the value the customer brings to the brand. This could include social shares, reviews, referrals, or other forms of engagement.
The MoxieLash Insider program is a good example. It rewards customers for purchases but also for actions like following the brand on Instagram or downloading their app.
These programs can foster a deeper connection with customers by aligning rewards with brand values.
Tiered loyalty programs
Tiered loyalty programs involve levels of membership that offer increasing rewards and benefits the more a customer spends.
An example of this is the Astrid & Miyu rewards program, Astrid & You. When revamping their program, Astrid & Miyu introduced four new tiers with exciting perks that would incentivize their customers to keep coming back.
These programs are excellent at encouraging repeat business and promoting higher spending.
They can, however, be complex to manage, and businesses need to ensure the higher tiers offer genuinely enticing benefits to motivate customers to climb the ranks.
Subscription-based loyalty programs
In subscription-based loyalty programs, customers pay an upfront or recurring fee to gain access to exclusive benefits. Amazon Prime is a classic example, where members pay an annual fee for benefits like free shipping, streaming services, and early access to deals.
Subscription programs can generate consistent revenue and foster a sense of exclusivity. However, they may limit the number of sign-ups due to the upfront cost, and the benefits have to justify the fee to keep customers subscribed.
Creating a customer loyalty program
Creating a customer loyalty program requires careful planning. You’ll need to consider your industry, customers, company size, when to start a program and what kind of software you might need.
Different types of loyalty programs suit different industries — bear this in mind
The right kind of loyalty program for your business can depend partly on your industry.
Retail businesses, for example, might favor points-based programs due to high purchase frequency, while airlines and hotels often opt for tiered programs to reward and retain their high-value customers.
For low-frequency purchases with longer purchase cycles — think expensive household appliances — there’s little chance of a loyalty program bumping up your customers’ purchase frequency. So in these cases, the best loyalty programs are often those that reward referrals.
Think carefully about the problem you’re looking to solve
All the way back at the beginning of this article, we talked through the many and varied benefits loyalty programs can have for your business.
Consider which of those benefits are most valuable to you. What problem are you having that a loyalty program can solve?
Use this insight to structure your loyalty program. For example, if you want to increase average order value, reward customers based on how much they spend, not per purchase.
Not all customers respond to the same incentives — make sure you understand your customers
Creating an effective loyalty program hinges on understanding your customers’ needs, preferences, and behaviors. Are they price-sensitive and would appreciate discounts or free shipping? Or would they value experiences, like early access to products or exclusive events?
If you need more insight on what rewards would truly motivate your customers, you could conduct surveys, focus groups, or customer interviews.
Some loyalty programs are more complex to run than others — account for your company’s size and resources
Larger enterprises are likely to have the resources to implement sophisticated, multi-tiered programs, while small businesses might prefer simpler, easy-to-manage programs, such as a points-based system.
For small businesses, loyalty programs can also serve as a tool to level the playing field with larger competitors.
When to implement a loyalty program
When you have just one customer, you have one customer who could repeatedly purchase and refer you to a friend. In other words – it’s never ‘too early’ to think about a loyalty program for your brand, but equally, it isn’t something you want to rush into.
Our advice is always to start simple, get the basics right, then build on those strong foundations to improve your program over time. Make sure you have the right resources to manage the program effectively, rather than rushing to launch with too much too early on.
Loyalty program software
There’s a bunch of software available to help with the implementation, management and measurement of your loyalty program. The right software depends on your business size, the complexity of your chosen loyalty program, and of course your budget.
- Implementation: how will you set up your program? How will it interact with your current ecommerce set-up?
- Communication: what’s your plan for promoting your loyalty program and keeping in touch with your members? Where can tools help you here?
- Analytics: customer loyalty programs generate tons of valuable data — how are you going to make the most of it?
Measuring the success of your loyalty program: the key metrics to consider
Getting your loyalty program off the ground is one thing. But how will you know if it’s working?
Here are some key metrics to consider when assessing your loyalty program’s effectiveness:
Average order value
Average order value (AOV) is the average amount a customer spends per transaction. To calculate it, divide total revenue by the number of orders.
An effective loyalty program should incentivize customers to spend more each time they shop. So, naturally, you’d expect to see your AOV increase under a successful program.
AOV = Total Revenue / Number of Orders
A good loyalty program motivates customers to shop more frequently to accumulate rewards.
If customers are making purchases more often after the introduction of your loyalty program, things are going in the right direction.
Calculate purchase frequency (PF) by dividing the total number of purchases by the number of unique customers over a certain time period.
PF = Total Number of Purchases / Number of Unique Customers
Customer lifetime value
Customer lifetime value (CLV) is the total revenue you can expect from a customer throughout their relationship with your business.
Since loyalty programs should improve retention and increase the frequency and value of purchases, you’d expect the CLV of customers taking part in your loyalty program to be higher than the CLV of those who aren’t.
Calculating CLV can be a bit more complex, because it involves several factors like average purchase value, frequency rate, and average customer lifespan. A simplified version of the formula is:
CLV = Average Purchase Value x Purchase Frequency x Average Customer Lifespan
Revenue and new customers from word of mouth
One of the significant benefits of loyalty programs is transforming customers into brand advocates. Using referral codes or unique tracking links will help you see how much additional revenue is generated from referrals.
There’s no single formula for calculating the monetary value of this brand advocacy, but you could go with something like:
Word of Mouth Revenue = Number of Referred Customers x Average Purchase Value
Redemption rates measure the percentage of customers who redeem the rewards they’ve earned through your loyalty program.
Redeemed rewards often mean more purchases, so if your program has a low redemption rate, it might mean your rewards aren’t appealing enough or the redemption process is too complicated.
Redemption rates are calculated by dividing the number of rewards redeemed by the number of rewards earned. This is usually expressed as a percentage.
Redemption Rate (%) = (Number of Rewards Redeemed / Number of Rewards Earned) x 100
Customers who value a loyalty program are more likely to engage with it – regularly checking their points balance, redeeming rewards, and participating in program-related promotions. The higher their engagement, the more likely they are to make more purchases.
Program Engagement (%) = (Number of Active Customers / Total Number of Customers) x 100
Customer churn rate
Customer churn rate refers to the percentage of customers who stop doing business with you during a given period.
A successful loyalty program should increase customer retention, so you should see your churn rate decrease.
Churn Rate (%) = (Number of Customers at Start of Period – Number of Customers at End of Period) / Number of Customers at Start of Period x 100
Calculating the cost (and ROI) of your loyalty program
All loyalty programs come at a cost. The key is to understand these costs upfront, so they can be measured against the expected benefits.
Upfront and Ongoing Costs
Loyalty program costs can be divided into two main categories: upfront and ongoing.
- Customer research costs
- Technology and software set-up
- Design and development costs — think of assets like program logos, cards, websites, mobile apps, etc
- Launch costs like advertising, marketing, and PR efforts
- Software and tech maintenance
- Rewards costs (discounts, experiences etc.)
- Communication costs — push notifications, SMS messages, etc
- Staff training and management costs
Calculating the ROI of your loyalty program
To figure out the ROI from your loyalty program, you need to understand the net benefits derived from the program (revenue from increased sales, customer retention, etc.) and subtract the total costs of the program.
Here’s a basic formula for this calculation:
ROI (%) = (Net Profit from Loyalty Program – Total Costs of Loyalty Program) / Total Costs of Loyalty Program * 100
To figure out net profit, consider the incremental revenue generated from the program (increased sales, upsells, cross-sells, etc.) and subtract the costs of rewards and any other direct costs associated with those sales.
The formula above is the simple version. But ROI calculations can get complex when you consider long-term benefits, such as increased customer lifetime value (CLV). This kind of accounting calls for more sophisticated attribution models.
You might also want to consider indirect benefits, such as enhanced brand perception and customer goodwill. These things are hard to quantify, but they can have a significant impact on long-term business growth.
Loyalty program pitfalls: the risks of setting up a loyalty program — and how to solve them
While loyalty programs can yield huge benefits, they’re not without their pitfalls. Here’s where loyalty programs can go wrong — and what you can do to avoid making common mistakes.
Many businesses expect instant returns from their loyalty programs, but it takes time for these initiatives to gain traction and yield significant results. It’s vital to set realistic and achievable goals.
To avoid this, businesses should do thorough market research and financial forecasting before launching a loyalty program.
Lack of clear communication is another common issue. If customers don’t understand the benefits of the program or how to earn and redeem rewards, they’re unlikely to get involved.
Don’t make this mistake: before launching your loyalty program, put a clear plan in place to communicate its benefits to customers.
Use multiple communication channels: email, app notifications, dedicated website pages, SMS, and (if applicable) in-store signage.
With LoyaltyLion, you can automate and simplify this communication.
If your rewards aren’t valuable to your customers, they won’t engage with your loyalty program.
Here, customer insight is key. Conduct surveys or use data analysis features in loyalty software to figure out what your customers will respond to. And then offer the right rewards.
Lack of data utilization
Data collected through loyalty programs is incredibly valuable, but often underutilized. If you don’t make use of this data, you miss opportunities for personalization, segmentation, and better decision-making.
Analytics can help with this: with LoyaltyLion, you can track customers behaviors, preferences, and purchasing habits, enabling personalized offers and better business decisions.
Loyalty programs can be costly, and without careful management, costs can outweigh benefits.
You can avoid this. You just need to keep an eye on your ROI. Calculate it regularly. Factor in all the costs, direct and indirect. Software with integrated loyalty program analytics can provide insights into the cost-effectiveness of the program and help adjust the strategy if needed.
Ultimately, the key is to keep the program flexible and data-driven. By doing so, businesses can ensure their loyalty program is a strategic asset that drives growth and customer loyalty.
Why choose LoyaltyLion?
At LoyaltyLion, we’re all about helping ecommerce businesses succeed — we want to see you take on the big brands and win!
Our loyalty program software is designed to help you grow. When you choose our platform and loyalty know-how, we’ll help you keep hold of your customers – and win you new ones too. From that, you can realize the long-term value of those who buy from you.
We’re already working with many leading brands to build customer loyalty worldwide. And the results they’re achieving speak for themselves. Why not take a look at our case studies to see what’s possible when you invest in customer loyalty?
Or, if you’re ready to explore what a loyalty program could do for your brand, book a demo with one of our specialists.