21 Apr 2008  Research & Ideas

The New Math of Customer Relationships

Harvard Business School professor emeritus James L. Heskett has spent much of his career exploring how satisfied employees and customers can drive lifelong profit. Heskett and his colleagues will soon introduce a new concept into the business management literature: customer and employee "owners." Key concepts include:

  • Service profit chain concepts are global, subject only to local cultural practices.
  • Businesses are experimenting with the idea of creating "owners" out of both customers and employees, who create the highest lifetime value to the organization.
  • During times of economic stress, relationships between customer and employee satisfaction, loyalty, and productivity become more critical.

 

It's the E=MC2 of customer loyalty.

Deeply satisfied employee = deeply satisfied customer = lifelong profit.

Harvard Business School professor emeritus Jim Heskett and professor Earl Sasser have pursued this seemingly simple equation in books including Service Breakthroughs (with Christopher Hart) and The Service Profit Chain and The Value Profit Chain (with Lenoard A. Schlesinger). Some of the ideas go back to Heskett's 1986 book, Managing in the Service Economy. A new book, The Ownership Quotient, is underway, written with Sasser and Wheeler.

These works have come to deeply influence how managers think of customers, and introduce the idea that not all customers contribute equal value. Concrete examples illustrate the self-reinforcing nature of the connections between employee loyalty and customer loyalty; and between employee satisfaction and customer satisfaction.

We asked Heskett to update us on the new research and on the impact of these works on practice.

Sean Silverthorne: It's been five years since The Value Profit Chain was published, and ten years since the arrival of its predecessor, The Service Profit Chain. What kind of impact did the books and their themes exploring links between satisfied employees and satisfied customers have on practitioners?

Jim Heskett: While we don't spend any time tracking the impact, Earl and I (as well as our coauthors who, over the years, have included Chris Hart, Len Schlesinger, Gary Loveman, Tom Jones, as well as Joe Wheeler) have been reminded of it in various ways.

First, of course, there are those organizations known to us that use the ideas for a range of purposes, all the way from guiding their marketing and service efforts to providing a cornerstone for their overall business strategies.

Then there are large and small organizations with whom we've had no previous contact that get in touch with us to check up on the latest thinking that they say has influenced their management over the past decade or so.

Finally, the service profit chain turns up in annual reports such as that of Westpac, one of Australia's leading banks. The ideas are reflected in remarks by managers, whether or not the actual terms are used.

In many respects, they have become generic, which I suppose is the ultimate mark of usefulness. In all fairness, they are the product of the work of many practitioners and researchers. We just happened to have packaged and measured the relationships in a way that made sense to a lot of people.

Q: Many companies approach creating a good customer experience as a discrete action: a customer satisfaction program, for example. But your books detail an integrated set of actions and corporate values involving almost everyone in the company. How difficult has it been for organizations to adopt this all-in approach?

A: Service profit chain concepts are deceptively simple. They require an integrated set of management initiatives to achieve. The initiatives have to address employees first, then customers. And they take time.

So it's not surprising that not all of the organizations that have implemented parts of the concept have utilized it as a driving force for an entire business. Hardest of all is the cultural change that you mention. It requires that organizations identify values, behaviors, and measures that help reinforce service profit chain relationships.

"Service profit chain concepts are deceptively simple."

But it also requires actions. That is, when managers are not managing by the values and cannot be admonished or retrained to do so (which rarely works), they have to go. That's a difficult step for many organizations to take.

Q: Which of the companies that you profiled continue to shine today? Any notable exemplars from the past that have lost their way?

A: Identifying exemplar organizations is somewhat foolhardy. Every organization hits rough patches. We've been fortunate to have a reasonably high "hit rate" over the years. Among those that have inculcated the ideas, whether they use the terms or not, that we identified early on have continued to do well are companies like the Vanguard Group, the Omnicom Group, and Southwest Airlines.

One organization that has encountered challenges has been ServiceMaster. To cope with market challenges, the company divested itself of some of the businesses that provided its cultural core.

Q: Will you update the books? If so, which new companies would you add to your list of examples?

A: Earl Sasser and I are updating the books with a new one titled The Ownership Quotient. In it, we highlight organizations like Harrah's Entertainment, Rackspace Managed Hosting (a Website hosting service), Baptist Health Care, and Wegmans (a regional grocery chain). At Harrah's, a former HBS colleague and coauthor of ours, Gary Loveman, has led a remarkable period of growth by installing service profit chain concepts throughout the organization.

These organizations have been able to achieve what we might call SPC.2 by creating "owners" out of both customers and employees. By owners, we mean people who are not only loyal and willing to recommend the organization to others, but who make referrals, influence others to join as customers or employees, test new products or services and provide suggestions for improvements, and are willing to help in the selection of new employees.

At Harrah's these customers are called Diamonds and Seven Stars. They have the highest lifetime value to the organization and, in addition, exhibit a much higher willingness than other guests to help Harrah's improve its business. Interestingly, this kind of approach helps explain many of the successful behavior patterns in "New Age" Internet-based businesses such as Rackspace Managed Hosting, and for that matter Google.

Q: One of the most powerful ideas presented in the books is the realization that not all customers produce equal value—in fact, companies should consider "firing" the less profitable customers. Has this concept taken hold in practice?

A: When we observed a number of organizations leading to the original articulation of the service profit chain, we found a common behavior among the most successful ones. In various ways, they "fired" customers who either were abusive in their relationships with employees or were just difficult to serve, perhaps because they fell outside the core constituency (target market) identified in the organizations' strategies. In some organizations, this is a way of expressing support for employees. In others, it is a way of preserving the organization's strategic focus. This is typically not something that an organization advertises. But it is standard practice in a number of organizations today.

For example, at ING DIRECT, the fastest-growing financial services organization in the United States over the past seven years, the company, in as personal and amiable a way as possible, asks 10,000 customers to close their accounts every month. It's important to point out that this is out of a current base of about 6.5 million customers who give ING DIRECT the highest marks for satisfaction out of all U.S. banking organizations. The company fires customers who are especially "high maintenance" because they are unusually high users of the time of its support center personnel. This both preserves a low-cost base for its targeted customer base and, by the way, reduces a source of frustration for employees.

Q: Increasingly, companies are riding the coattails of globalization to send their offerings around the world. Is it more difficult for multinationals or other global companies to practice service profit chain management given this dispersing of resources?

A: Service profit chain concepts are global, subject only to local cultural practices. Early morning group exercises for employees are the Chinese equivalent in some ways to the daily shift huddles at Build-A-Bear Workshop in the United States. Companies like Wal-Mart and UPS have been able, over time, to export service profit chain practices globally. Further, non-U.S. companies such as Bouygues Telecom in France and Westpac, the Australian bank I mentioned earlier, have utilized them as cornerstones of their successful operating strategies. So the ideas travel quite well, with some adjustments necessary to recognize cultural differences.

Q: As we head into what appears to be an economic slowdown, what should companies be considering in terms of the service profit chain? Can it be a tool for competitive advantage in a cooling economy?

A: Relationships between customer and employee satisfaction, loyalty, and productivity become even more critical during times of economic stress. During such times, the most important advice that one can give is first remember that the service profit chain starts with employees—therefore, preserve that resource; second, consider dividing jobs at lower pay rather than laying off customer-facing employees;third, seek economic ways of making both employees and targeted customers know that you value their loyalty—this doesn't require a lot of money; and fourth, work even harder at creating "owners" by eliciting suggestions from employees and customers alike about ways of cutting costs while enhancing customer service.

About the author

Sean Silverthorne is editor of HBS Working Knowledge.