Customer Retention Paper Dec 2005

8/11/2019 Customer Retention Paper Dec 2005

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Sustainable Competitive Advantage Through Customer Retention:The Roles of Learning and Governance

SHANTANU DUTTAMarketing Department

Marshall School of BusinessUniversity of Southern California

RAMUMAR !ANA"RAMANMarketing Department

Marshall School of BusinessUniversity of Southern California

#$% !& MA#%R

University of Southern CaliforniaMarshall School of Business

Department of Management an' (rgani)ation *BR" +,-.$os Angeles/ CA 0,,102,1,1

Tel3 *45+. 145255657a83 *45+. 96,2+:14

e2mail3 kmayer;marshall&usc&e'u

Decem


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Sustainable Competitive Advantage Through Customer Retention:

The Roles of Learning and Governance

ABSTRACT3

Customer retention is an important issue for strategy scholars/ *B?. of the firm toe8amine the 'eterminants of customer retention& Using a uni@ue panel 'ataset of over a hun're'customer relationships of a large information technology firm/ >e are a thehistory of the transaction characteristics een the supplier an' their e fin' that customer retention is 'riven


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"n high technology in'ustries/ the increase' pace of glo capaork that suggests ho> the inter2organi)ational literature

on kno>le'ge/ learning/ an' governance impact the a


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customers in these markets it is important to separate the effects of characteristics of the current

transaction from the characteristics of previous transactions& (ur panel 'ata of customers ena. has focuse' on ho> the characteristics of the current transaction affect ho> it >ill they are governe'/ also play an important role in customer

retention& "n some cases >e fin' that characteristics of prior transactions play a greater role in

customer retention than the current transaction characteristics as customer concerns accumulate

over time& Customer retention is an important performance metric in ar's filling this

important gap&

Secon'/ our fin'ings are consistent >ith our conceptuali)ation of the impact that

kno>le'ge hen a supplierFs 'ecision to utili)e a su


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or'er to re'uce governance costs/ e e8amine circumstances >hen a supplier may hurt the

relationship >ith a customer of the role of governance on inter2organi)ational relationships& (ur

fin'ing suggests that e are the

first to e8amine the impact of governance choice on customer retention&

=e are a


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firms are reali)ing the importance of loyal customers an' a'opting strategies to create an'

sustain a loyal customer are in'ustry&

%8tant literature in marketing has looke' into the various aspects of customer

relationship& =hile some stu'ies are concerne' >ith formulating metho's to mo'el customer

retention *Schmittlein/ Morrison Colom


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7urther/ our stu'y also provi'es a sharper focus on ho> ole'ge *i&e&/

capaell ill promptly oill

likely un'ertake a''itional monitoring of the supplier to compensate for the >eak outcome2


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a''itional monitoring/ ho>ever/ the supplier >ill have some uncertainty ahether the oell the supplier has performe'& This shoul' result

in a lo>er likelihoo' of repeat hen the output of the current proect is'ifficult to measure&

%ven if the customer is satisfie' >ith the proect upon completion/ the 'ifficulty of

os that shirking on @uality is highly unlikely to ork/ may here output is 'ifficult to measure/ the less likely the customer is toreturn&

9


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A customerFs perception of the supplier is 'riven hen contracting pro upon transaction cost economics to e8amine the role of

governance in customer retention/ our focus on customer retention causes us to focus on an

e8planatory variaith the customer is likely to le'ge that asset specificity is important in governance/ e


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=hen a supplier >ins the to organi)e an' complete the proect& The supplier can use employees or turn to a

suith

employees for t>o key reasons that involve customer perception& 7irst/ the customer may

interpret the use of a suorking >ith the supplier in the future& %mployees are more

relia


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Hypothesis + assumes that customers have a clear an' imme'iate negative reaction to

su


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Hypothesis 63 The more of a particular customerFs prior mission critical proects that thesupplier has sule'ge consi'erations on organi)ational form *e&g&/ Argyres/

500- Nickerson Silverman/ 4,,+. an' competitive a'vantage *e&g&/ 7oss/ 500- ogut

an'er/ 5004./ its effect on customer retention has yet to oul' hurt

not only the customer oul' le'ge reuse effectively aligns the incentives of the customer

an' supplier/ >hich shoul' increase customer satisfaction an' retention&

A secon' factor is that some customers are more likely than others to >ork >ith suppliers

on proects that may generate reusale'ge& Some customers are closer to the

technological frontier than others& Many of the proects that can pro'uce potentially reusale'ge involve customers >ith cutting e'ge re@uirements& Such customers are likely to have

55


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future proects that >ill also pro'uce reusale'ge/ so the supplier has an a''e' incentive

to perform >ell in or'er to earn future ell in such situations/ customer satisfaction shoul' ith such strong incentives for

the customer/ the customer is likely to reap the repeate' ith a supplier feeling very

satisfie' >ith the supplierFs performance/ the more likely the ill return to the supplier 'ue

to the continue' pattern of superior performance&

A secon'/ an' perhaps more important/ effect is that the more times a proect involves

potentially reusale'ge/ the more e8perience the supplier gets in learning ho> to

incorporate such kno>le'ge an' use it to effectively meet the nee's of this an' other customers&

%8perience is a po>erful 'river of learning in organi)ations *e&g&/ Argote/ 5000.& =hile reusale'ge can


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Hypothesis -3 The more prior proects the supplier has complete' for the customerinvolving potentially reusale'ge/ the greater the likelihoo' of retaining thecustomer&

=hile potentially reusale'ge is important/ a secon' aspect of kno>le'ge an'

learning is a supplierFs e8perience >ith a particular customer& The longer a supplier >orks >ith a

particular customer in a given line of to >ork more

effectively >ith that customer an' the more the customer may come to trust the supplier& There

are four 'istinct reasons >hy e8perience >ith a customer is likely to increase customer retention&

7irst/ mistakes are more common on early proects orking together *Mayer Argyres/ 4,,6.& (nce the relationship survives these uncertainties

associate' >ith learning ahen a relationship een t>o firms is 'eveloping/

mistakes may oul'


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$)*#R#CAL A!AL+S#S

"ata and Conte,t

=e teste' the hypotheses >ith 'ata from Compustar/ a provi'er of a variety of

information technology *"T. services an' computer2relate' har'>are& The "T in'ustry is i'eal for

testing the hypotheses& "t is large an' important to customers in virtually all sectors of the >orl'

economy an' kno>le'ge is a key source of competitive a'vantage for "T firms& The "T in'ustry

involves the storage/ transfer/ an' management of information/ typically using mainframes/

servers/ or relate' 'evices& "t inclu'es three tiers3 customers *e&g&/ 7ortune :,, firms./ "T

suppliers *e&g&/ "BM/ 7uitsu/ CSC./ an' smaller su to fulfill

the proect re@uirements& The sourcing 'ecision is particularly important


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Compustar/ a pro'ucer of mainframes an' relate' har'>are since the 509,s/ entere' the

platform2in'epen'ent "T services le'ge

le'ge n from a

ran'om sample of the contracts in CompustarFs contracts lias selecte' oul' reflect the

entire population of proects& The proects in this sample consist of all contracts een

Compustar an' 564 customers& (ur sample contains appro8imately 4:G of the entire population

of Compustar "T services contracts& A revie> as representative of the full population of contracts in terms of customer in'ustries represente'/

si)e of the customer firm/ nume intervie>e' several Compustar managers/

engineers/ an' "T personnel from outsi'e Compustar& The 'ata >ere 'ra>n primarily from the

contracts een Compustar an' its customers/ su


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u'gment& The contract contains a 'etaile' 'escription of the proect inclu'ing the type of

service re@uire' an' the responsias e co'e' the customer as terminate' if that 'ate >as after the

en' of the sample perio'/ then the customer >as co'e' as right censore'& 7or customers that ha'

only single proect >ith Compustar/ >e use' t>o stan'ar' 'eviations aays of measuring

termination/ inclu'ing fi8e' perio's such as a year *see Ro


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is 'esigne' to capture the cost of measuring @uality e8 post ith high measurement costs& ER"(R

M%ASUR%M%NT C(ST is a count of the numith this customer that ha' high measurement costs&

Testing Hypotheses + an' 6 re@uires an interaction variaere suith

this customer& The current proect is not inclu'e' in this count&

The potential to create reusale'ge *Hypotheses :2-. is capture' hich is a 'ichotomous varia


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several others hat happene' 'uring the e8ecution of the proect& Hypothesis - e8amines the effect of prior

proects >ith potentially reusale'ge& ER"(R R%US% is a count of the nume inclu'e

customer critical proects/ regar'less of >hether they are suise& ER"(R CR"T"CA$ is a count of the num


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supplier an' it affor's the supplier the opportunity to learn more ale'ge among 'ivisions in or'er to provi'e s upon a technological area in

>hich the supplier has capaith e8perience2


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as as follo>s& %ach engineer co'e' the same eighty ran'omly

selecte' contracts& Then the t>o engineers an' one of the authors >ent through all eighty an' >e

foun' the follo>ing 'iscrepancies3 three for CR"T"CA$ SUBC(NTRACT/ three for

M%ASUR%M%NT C(ST/ t>o for ER(RAMM"N an' t>o for R%US%& After a ork/ the 'ynamics of 'uration time can hich is 'efine' as the customer iFs pro


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.5&&&*t

tOuntiliprelationshthecontinue'hascustomerthe

givent.t*t/intervaltimein theiprelationshthesterminateiPcustomerEr

$im.*,

+

=t

i th

The ha)ar' function can also hich it 'oes for our 'ata&

.:.&&&*e8p*.*.Q*5

, =

=p

j

jji xthxth

45


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*e8p *.25. helps us to interpret the coefficients associate' >ith the covariates& This represents

the percentage change in the ha)ar' rate for a unit change in the correspon'ing covariate/ 8&

Co8 *5094. presente' the semi2parametric partial likelihoo' function that is in'epen'ent

of the


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>ill as critical

for the customer& CompustarFs overall e8perience in the "T services in'ustry/ T"M%TR%ND/ has

a negative an' significant *p V ,&,,5. relationship on the likelihoo' of termination&

2222222222222222222222222222222"nsert Tahere it is 'ifficult to 'etermine @uality *CURR%NT

M%ASUR%M%NT C(ST. increase the pro


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*CURR%NT CR"T"CA$ SUBC(NTRACT. has no significant effect& Hypothesis 6/ ho>ever

receives strong support as the cumulative nume >ante' to con'uct a''itional

analysis to verify ho> a prior relationship influences customer retention& Mo'el 4 uses a linear

measure of prior relationship/ e thought that there might e inclu'e' *ER"(R "T ER(!%CTS.4in Mo'el +

to test for such a non2linear relationship& The log likelihoo' for Mo'els 4 an' + are 25++4&59 an'

25+49&41 respectively& Again/ the likelihoo' improvement een Mo'el 4 an' Mo'el + is

statistically significant at the 5G level& The =al' test reects Mo'el 4 in favor of Mo'el + *the

calculate' 4 +5&4- >hile the critical 4*54/ ,&,5. 4-&44.&

The s@uare' numhich provi'es stronger support for Hypothesis 5&

Robustness Tests

46


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"n or'er to test for the presence of multicollinearity an' roe

con'ucte' various tests& (ne such test is the variance inflating factor *?"7. test& "n general/ ?"7

value of less than 5, >oul' in'icate that there is no proas less than + >hich clearly in'icates that there is no proith a variety of 'ifferent >ays of 'etermining >hether the

last proect een Compustar an' each customer in the sample represente' a terminate'

relationship or a right censore' event& =e use' the follo>ing alternative measures to co'e

termination3 *5. t>o stan'ar' 'eviations ao theories that

shoul' influence customer retention are transaction cost economics *TC%. an' the kno>le'ge2


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that suill lea' to >orse

performance/ hen 'oes misalignment of the current transaction matter more an' >hen 'oes

history of misalignment pose a cumulative pro


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'ata 'ating ith the customer/ there is still a strong

increase in CompustarFs aith managing customer

relationships& Managing customer relationships is a ith t>o theoretical motivations& 7irst/ it coul' ith a learning an' governance

e8planation& The longer Compustar >orks >ith each customer/ the more they learn to >ork

together an' are likely to 'evelop customer2specific routines *e&g&/ kno>ing >hat to put in the

contract/ kno>ing >ho an' ho> to ask for changes. to make their interaction more efficient

*Mayer Argyres/ 4,,6.& These customi)e' routines represent a specific investment that >oul'

ere terminate'/ so the parties >ill re@uire a larger 'istur


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to resort to termination& Customer2specific learning can represent a specific investment that

influences customer retention&

=hile learning an' governance play important roles in customer retention/ so 'o

kno>le'ge consi'erations& =hile customer2specific e8perience resulte' in increase' retention/

>e also foun' that proects >here Compustar create' kno>le'ge that it coul' reuse also

increase' customer retention& =e attrihen Compustar is

ell ill make them more competitive in the future

le'ge& "n a''ition/ >e fin' a cumulative effect as the more

proects >ith the potential to create reusale'ge that Compustar 'oes >ith a particular

customer lea' to increase' customer retention& This result is consistent >ith an economic story

that increase' retention is a result of a supplier >ith strong incentives to perform >ell& "t also

consistent/ ho>ever/ >ith a more kno>le'ge2le'ge has the potential to

ith each customer& This e8planation is consistent >ith the

fact that our sample 'ates


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CompustarFs e8perience >ith that customer& The more pro'uct lines that the customer procure'

from Compustar/ outsi'e of "T services/ the greater CompustarFs ae

fin' that strong technological capaeak capaith mainframes an' their fle'gling capa


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supplierFs capae are confi'ent that the negotiate' contract 'oes not solely reflect

Compustar policy le'ge/ learning an' governance

consi'erations are important in virtually all B4B settings an' are not limite' to the "T services

in'ustries& 7or e8ample/ e8changes in many high technology in'ustries *e&g&/ aerospace/

telecommunications/ soft>are/ pharmaceuticals an' semicon'uctors. involve firms >ith 'iverse

kno>le'ge un'ertaking a series of comple8 proects that leverage firm2specific intellectual

property& 7uture research to confirm or 'iscount the generali)a


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relationships shoul' incorporate a measure of performance an' one such measure that 'oes not

re@uire 'etaile' financial 'ata is customer retention& =hile this measure is not perfect/ no

measure is/ >e ith the supplierFs performance&

"n a''ition/ >e e nee' to account for the past in or'er to

un'erstan' >hat is happening >ith the current e8change& Erior interactions can result in trust

*ulati/ 500:./ learning *Mayer Argyres/ 4,,6./ relationship2specific investment *=illiamson/

5005. an'Kor other effects that nee' to


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References

Anan'/ B& T& hanna & 4,,,& Do 7irms $earn to Create ?alueW The Case of Alliances&Strategic Management Journal/ /03 40:2+5:&

An'erson/ %& 501:& The Salesperson as (utsi'e Agent or %mployee3 A Transaction CostAnalysis&Marketing Science/ 1*+.3 4+624:6&

Argote/ $& 5000& Organizational Learning: Creating, Retaining and ran!ferring "no#ledge&Boston3 lu>er Aca'emic Euer/ an'overnance "nseparaith aContinuous Service Erovi'er3 the Role of Satisfaction& Marketing Science,023 6:2-:&

Cannon/ !&E& =&D& Eerreault !r& 5000& Buyer2Seller Relationships in Business Markets&Journal of Marketing Re!earch/ 343 6+026-,&

Co8/ D&R& 5094& Regression Mo'els an' $ife Ta #ork3 (8for' University Eress3 5:02591&

Do)/ #&$& 500-& The %volution of Cooperation in Strategic Alliances3 "nitial Con'itions or$earning ErocessW Strategic Management Journal/ 023 ::21+&

Dyer/ !&% H& Singh& 5001& The Relational ?ie>3 Cooperative Strategy an' Sources of"nterorgani)ational Competitive A'vantage& $cadem% of Management Re&ie#/ /33 --,2-90&

%fron/ B& 5099& %fficiency of Co8Fs $ikelihoo' 7unction for Censore' Data( Journal of the$merican Stati!tical $!!ociation/ 2/ 5367.3 ::92:-:&

7oss/ N& 500-& no>le'ge2


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et)/ / R& Blatt much you kno> versus ho> >ell " kno> you3 Selecting a supplier for atechnically innovative component& Strategic Management Journal/ 4-3 9:20-&

Holmstrom/ B& 5090& Moral Ha)ar' an' (


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Mayer/ &!& !&A& Nickerson& 4,,:& Antece'ents an' Eerformance Conse@uences ofContracting for no>le'ge =orkers3 %vi'ence from "nformation Technology Services&Organization Science/ 5-3 44:2464&

Mayer/ &!&/ !&A& Nickerson H& (>an& 4,,6& Are Supply an' Elant "nspections Complements or

Su&Strategic Management Journal/ 013 :502:41&

Eoppo/ $ T& enger& 4,,4& Do 7ormal Contracts an' Relational overnance 7unction asSu


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=alker/ & $& Eoppo& 5005& Erofit Centers/ Single2Source Suppliers/ an' Transaction Costs&$dmini!trati&e Science /uarterl%/ 343 --219&

=illiamson/ (&%& 509:&Market! and 0ierarchie!;Ne> #ork3 The 7ree Eress&

=illiamson/ (&%& 501:& )conomic +n!titution! of Capitali!m& Ne> #ork/ N#3 The 7ree Eress&

=illiamson/ (&%& 5005& Comparative %conomic (rgani)ation3 The Analysis of DiscreteStructural Alternatives& $dmini!trati&e Science /uarterl%/ 343 4-0240-&

=illiamson/ (&%& 500-& he Mechani!m! of 1o&ernance& Ne> #ork3 (8for' University Eress&

=illiamson/ (&%& 5000& Strategy Research3 overnance an' Competence Eerspectives& StrategicManagement Journal/ /93 5,19255,1&

+:


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Table 0: "escriptive Statistics

?ariae ran severeal tests *inclu'ing ?ariance "nfaltion 7actor *?"7. test. in or'er to test for multicollinearity& ?"7 >as less

than +/ >hich in'icate that there is no pro


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Ta

Customer Retention Paper Dec 2005

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