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James R. Stafford
Stafford SBSG
Introduction
RFM stands for Recency, Frequency and Monetary Value. It has been used by
direct marketers for over 40 years as a segmentation tool to increase marketing
ROI. The basic premise of RFM is that customers who have purchased more
recently, more frequently and have spent more with your company are your best
prospects for future direct marketing campaigns. Like data mining/response
modeling, the goal of RFM is to increase marketing ROI by communicating (via
direct mail, call center, etc.) only with customers that are likely to respond. Done
well, you increase your ROI as you attain almost the same number of sales by
contacting only a fraction of your customer base.
RFM, BI, data mining and optimization represent a common progression away
from mass marketing for many organizations as their marketing efforts become
more analytically based and targeted.
Each approach has experienced proponents that argue one over the other. The
point is to start somewhere and experiment to find the one that works best for
your company and your customer base. Let’s look at a few examples.
Experience tells us that the best prospects for an upcoming campaign are
those customers that are in Quintile 5 for each factor – those customers
that have purchased most recently, most frequently and have spent the
most money. In fact, a common approach to creating an aggregated
score is to concatenate the individual RFM scores together resulting in
125 cells (5x5x5).
A customer’s score can range from 555 being the highest, to 111 being
the lowest.
RFM – Within Parent Cell Ranking
1
Arthur Middleton Hughes, Vice President, The Database Marketing Institute
experimentation. Bottom line, test multiple scoring methods to see which
works best for your unique customer base. The below graphical analysis
is a great first step in determining a weighting scheme that is appropriate
for your company.
OK, so now you have scores – how do you decide which customers
should be contacted based on those scores?
After a test or production campaign, you will find that some of the cells
were profitable while some were not. Let’s turn to a case study to see
how you can establish a threshold that will help maximize your profitability.
This study comes from Professor Charlotte Mason of the Kenan-Flagler
Business School and utilizes a real-life marketing study performed by The
BookBinders Book Club.2
Months
Since Total
Purchased Last Total # Dollars
The Book? Purchase Purchases Spent
Customers that purchased the book were more recent purchasers, more
frequent purchasers and had spent the most with BookBinders.
The response rates by decile for Recency paint an even more compelling
picture (see graph below).
The response rate for the top decile (18%) was twice the response rate
associated with the 5th decile (9%).
Results from this test were then used by BookBinders to identify which of
their remaining customers should receive the same mailing. BookBinders
used a breakeven response rate calculation to determine the appropriate
RFM cells to mail.
Breakeven is achieved when the cost of the mailing is equal to the net
profit from a sale. In this case:
So, according to the test offer, profit can be obtained by mailing to cells
that exhibited a response rate of greater than 8.3% -- or cells with an RFM
score greater than 425. BookBinders compared the profitability of RFM
versus their old mass marketing approach in the table below.
Conclusions
RFM, BI and data mining are all part of an evolutionary path that is common to
many marketing organizations. While RFM has been practiced for over 40 years,
it still holds great value for many organizations. Its merits include:
Jim has worked for leading companies in the Marketing Automation space (BI,
data mining, campaign management and eMarketing) for over 12 years. He has
Directed SPSS’ pre-sales engineers in North America and has played the role of
Product Marketing Manager for Unica’s Model (data mining) application. Mr.
Stafford has developed response models and customer segmentations strategies
for many industries including: catalogers, financial services, retailers, and
hospitality. Learn more about Jim’s services here. He can be reached at,
Jim@StaffordSBSG.com.