CHAPTER TWO

2.0 LITERATURE REVIEW

Customer Loyalty Program

This chapter will discuss on the past literature review that examines the recent

research studies, company data, or industry report that have been identified to

support the proposed study. The aim is to generate awareness, understanding,

and create interest for this study. Statistical data, opinions, indicators, quotes as

well as previous research findings will be further discussed later in this chapter.

2.1 Loyalty programs

Loyalty programs are marketing efforts which reward and, therefore, encourage

loyal customer behavior in order to increase the profitability of stable customer

relationships (Sharp and Sharp, 1997, p. 474). Firms aim at increasing customer-

specific turnover and profit margins by intensifying customer dialog, developing

customized service packages and thereby stimulating repurchase and cross-

buying behavior. At the same time, they strive to increase the efficiency of

marketing by carefully targeting customer communication (Dowling and Uncles,

1997; Palmer et al., 2000; Rapp and Decker, 2003).

It is characteristic of all loyalty programs that they grant benefits to customers,

depending upon the volume of sales that they generate. These benefits can

consist in monetary or non-monetary incentives like rebates, bonuses or

services. In practice, loyalty programs differ with respect to the importance which
they attach to the various types of benefits and whether they grant them

exclusively their most valuable customers (Rapp and Decker, 2003).

Research on loyalty programs has increased in the last years. The effect of

loyalty programs on loyalty and their critical success factors were investigated in

the context of various industry settings such as automotive industry (Stauss et

al., 2001), packaged goods (Roehm et al., 2002), financial services (Bolton et al.,

2000), airlines (Whyte, 2002), retail stores (Noordhoff et al., 2004) or

telecommunication (Gustafsson et al., 2004). The results of an empirical study of

Stauss et al. (2001) indicate that the membership in an automotive customer club

has a remarkable impact on the customer's relationship satisfaction and

retention. Bolton et al. (2000) show that participants of a loyalty program of a

financial service provider actually tend to realize increased revenues and higher

service usage levels and to overlook negative service experiences.

Several studies reveal the importance of a careful program design. Roehm et al.

(2002) demonstrate that the loyalty of customers of packaged goods brands

increases when the incentives are closely connected to the brand. The study of

Hallberg (2004) yields similar results. Another aspect of successful program

design is elaborated by Kivetz and Simonson (2003). They provide evidence that

by heightening the level of effort required to receive benefits, the attractiveness

of loyalty programs can be increased.

Yi and Jeon (2003) investigate how different program rewards influence the

perceived value of a program and show that customer involvement has an

important moderating role on the program's success. Noordhoff et al. (2004) find

out that a small number of alternative loyalty programs in a market and only little
familiarity of customers with these programs positively affect the success of the

program. This is in accordance with the results of the study of Whyte (2002) who

finds an especially high level of spurious loyalty among members of frequent flyer

programs who are participating in several different programs.

2.2 Loyalty programs and profitability

Firms employing loyalty programs should expect them to be profitable. On the

cost side of the profit equation, accurate estimates are difficult to obtain – even

within corporations. One reason for this is that marketing programs in general

and loyalty programs in particular, seldom are fully costed. There are

establishment costs (often including new advertising and promotional activity),

enrollment costs, IT hardware, database creation and maintenance costs,

servicing costs, management costs, editorial and production costs of loyalty

magazines, the direct costs of rewards, and the opportunity costs of spending

money on a loyalty program instead of on other marketing initiatives (e.g. new

product development). A formula for factoring-in some of these costs is provided

by Niraj et al. (2001).

The notion of brand acceptance draws heavily on behavioral definitions of loyalty,

while allowing for weak attitude formation and the influence of major

contingencies. It is within this context that most firms should assess their loyalty

programs. The review suggests that the demand-side success of many of these

programs has been over-claimed by their advocates. This conclusion is based on

two main observations:

1. Established patterns of repeat-purchase behavior appear to be robust to the

Attempts of even large, well-financed programs to change them (e.g. major

retail schemes or the airline frequent-flier programs); and

2. Many high-profile programs are either quickly copied or induce a direct

counter-response from competitors, thus nullifying much of their potential

impact (which, of course, is often the case with marketing and

communications initiatives in established markets).

2.3 Customer Loyalty

At a very general level, loyalty is something that consumers may exhibit to

brands, services, stores, product categories (e.g. cigarettes), and activities

(e.g. swimming). Here, we use the term customer loyalty as opposed to brand

loyalty; this is to emphasize that loyalty is a feature of people, rather than

something inherent in brands. Universally agreed definition by (Jacoby and

Chestnut, 1978; Dick and Basu, 1994; Oliver, 1999). Instead, there are three

popular conceptualizations:

1) Loyalty as primarily an attitude that sometimes leads to a relationship with

the brand (Model 1);

2) Loyalty mainly expressed in terms of revealed behavior(i.e. the pattern of

past purchases) (Model 2); and

3) Buying moderated by the individual’s characteristics, circumstances,

and/or the purchase situation (Model 3) (see Figure 2.1)

Loyalty as primarily an attitude that sometimes leads to a relationship with

the brand (Model 1)

Many researchers and consultants argue that there must be strong

“attitudinal commitment” to a brand for true loyalty to exist (Day, 1969;

Jacoby and Chestnut, 1978; Foxall and Goldsmith, 1994; Mellens et al.,

1996; Reicheheld, 1996). This is seen as taking the form of a consistently

favorable set of stated beliefs towards the brand purchased. These

attitudes may be measured by asking how much people say they like the

brand, feel committed to it, will recommend it to others, and have positive

beliefs and feelings about it – relative to competing brands (Dick and

Basu, 1994). The strength of these attitudes is the key predictor of a

brand’s purchase and repeat patronage. This is what Oliver (1997, p.392)

has in mind when he defines to cause switching loyalty as: