Accounting for loyalty program points can present a challenge to organizations looking for ways to modernize their program by expanding beyond “spend and get” to reward for engagement. After all, the argument goes, points are a liability and creating more of them can’t be done lightly. This perspective will not only keep you from much needed transformation, but will also keep your program from reaching its true potential. To understand why, let’s take a look at the logic behind loyalty programs in the first place, how marketers get trapped in accounting-related exercises, and last, how we can collectively break free to modernize our programs for a truly customer-centric rewards experience.
Discount vs. Loyalty Program
Prior to loyalty programs, companies would offer a discount to encourage sales. Discounts are customer neutral, meaning that anyone can redeem them — whether they are a new or existing customer. Intuitively, some customers are worth more to the business than others. However, discounts do not differentiate and are just as easily redeemed by loyal customers as they are by deal seekers.
Now, if an organization applied the same discount via accrued points to loyalty program customers, not only would they ensure a repeat sale, but they would create goodwill and build value in the relationship. The dollars are guaranteed to come back to the business when points are redeemed and even then, not all points will be used.
Accrued Points
The downside to this approach is that is has created a phenomenon of certain customers who like to bank their points for a future big purchase. The impact of this is two-fold if you are a business that tracks the value of your loyalty points in financial statements. First, points are a liability in the accounting sense which makes loyalty marketers concerned about creating too much liability for the organization. And, second, as most organizations’ loyalty programs revolve around a spend-and-get approach, there is a defined equation between revenue generated by loyalty program members and the liability they are able to create through their activity.
It is important to note here that while some organizations don’t track rewards on their financials at all, others have created their own guidelines for doing so as there remains no standard accounting method for tracking and reporting on program-created rewards.
The Flip Side
While loyalty marketers have become sensitive to the balance between revenue and reward, introducing new methodologies to this equation can be seen as challenging, or at worst, a threat. However, a fixation on the spend/liability equation ignores the flip side of the coin — the impact loyal customers have to business operations. To maximize the impact of a loyalty program, marketers should consider how they can maximize the value of customers to their business, further boosting the topline.
More to the point, customers are maturing and demanding more from brand relationships. Consider that according to research by Accenture, 51% of U.S. consumers are loyal to brands that interact with them through their preferred channels of communication. Increasingly, that channel of choice is mobile and social. Indeed, as reported by comScore, one of every five minutes of digital media time is spent with social media. Of this, roughly 80 percent is spent on mobile. Given all this, it’s clear that there is a large opportunity to use social media as a mechanism to turn the smartphone into a key component of your loyalty program.
Engagement Loyalty Drives ROI
Bringing it all together, engaging customers in these new channels–enabling them to earn rewards for their brand advocacy–allows loyalty marketers to modernize their programs and focus on the operational, topline value loyal customers bring to the business. By taking a social engagement approach to loyalty marketing, with an emphasis on providing utility and a fair value exchange, brands are able to drive social actions that not only engage customers but also create social proof, earned media, and word-of-mouth that simultaneously serves to grow new customer acquisition.
Moreover, research from brands that have added social media components to their loyalty programs have found that socially connected members buy twice as frequently as non-connected members. And one hotelier with such a program found that its connected members, in a given year, spent 75% more than the average member. They also had 2X more purchases than the average member in the same time period. Companies that track engagement loyalty find that the ROI is just as attributable as with “spend and get” programs.
Leave Liability Behind
Traditionally, brands have approached the loyalty equation with points, but research featured in the International Journal of Hospitality Management found that “providing social rewards [e.g., a member-exclusive personal lounge, health club, concierge services, and invitations to special events] increases customers’ emotional attachment and effective commitment to a company, and hence they are more likely to behave in ways that are beneficial to it.” This insight is important as brands look to create a value exchange that converts in social media.
Successful ideas for creating value in exchange for social participation and loyalty include invitations to social VIP only events, free upgrades or sneak peeks, unique or exclusive content, and the opportunity to engage with a brand celebrity — none of which result in liabilities you need to report to finance. For example, a leading sports retailer found that its members who were socially engaged spent on average $40 more per year. Multiply that by total connected members and it’s easy to see how the old accounting of points and liability must be modernized to reflect the new math of social engagement ROI.
At the end of the day, customers want to engage and interact with their favorite brands — and they want to be rewarded for it as they recognize the value of their time and their voice. Simultaneously, customers at organizations who have connected social media to their loyalty program are more engaged, participate and spend more with the brand, positively impacting the topline.
Hi Chris – thanks for posting this. Much to consider here!
That loyalty programs create goodwill with customers and build value in the relationships has been a subject of rigorous debate. I don’t question that loyalty programs have the capability of producing those outcomes, but they are far from certain.
I have struggled to grasp the meaning of ‘loyalty’ in the consumer context. The two words – customer and loyalty still strike me as an odd juxtaposition. In an article that I wrote, The Difference between Loyalty and Habit, and Why It Matters, http://customerthink.com/the-difference-between-loyalty-and-habit-and-why-it-matters/ I found that I had to distinguish between “true loyalty” and “contrived loyalty,” which really isn’t loyalty at all.
An HBR article by Joseph Nunes and Xavier Dreze (Your Loyalty Program is Betraying You https://hbr.org/2006/04/your-loyalty-program-is-betraying-you) states the point succinctly. They assert that loyalty programs “cannot, in any true sense, create loyalty. ‘Loyalty’ means faithfulness. It means unswerving devotion. If you are loyal to something—a concept, a person, a product—you are not a fair-weather friend. You stick with it even when doing so runs counter to your interests. But surely this is not something to be expected in any commercial setting; it’s scarce enough in love and war . . . We don’t raise this semantic issue facetiously or with a sense of outrage. Rather, our point is that euphemisms, especially ones as broadly adopted as ‘customer loyalty,’ don’t make the work of management easier. They muddy the waters and throw marketing efforts off course.”
My purpose – and I’m assuming theirs – is not to bash loyalty programs, but to clarify what they do best. According to the authors, they can create five valuable outcomes:
1) Keep customers from defecting
2) Win greater share of wallet
3) Prompt customers to make additional purchases
4) Yield insight into customer behavior and preferences
5) Turn a profit
Most every company wants these positive outcomes. But items 1 – 3 should never be mistaken for ‘loyalty.’ Their article was written in 2006, but I think these outcomes are equally worthy and attainable today. And their point that loyalty programs cannot realistically conjure loyalty still rings true, at least for me.
The accounting treatment of loyalty programs is a fascinating topic, and how CFO’s manage them boils down to what provides the greatest tax advantage. There are reporting regulations that require companies to specify how loyalty points are used. Depending on whether loyalty points are used for future discounts, exchanged for cash or goods and services, or somethings else determines how companies must treat them on their books. I expect that no two companies handle this alike. Among the variables that are considered in the accounting calculus are redemption rates, breakage, and the value companies assign to points.
I have not heard of companies lumping point redemption into Revenue, but this June, 2016 advisory from KPMG (https://home.kpmg.com/content/dam/kpmg/pdf/2016/06/tnf-wnit3-june-6-2016.pdf) provides guidelines:
“At present, companies typically recognize the entire amount of the transaction price as revenue for financial accounting purposes at the time the good or service is sold, with no corresponding amount allocated to customer loyalty points to be redeemed in the future. Concurrently, the companies also typically recognize the full amount of the estimated cost to provide the goods or services underlying the loyalty program as a current expense for financial accounting purposes.
Under Topic 606, companies will generally allocate a portion of the transaction price to the customer loyalty points as a separate “performance obligation,” thus deferring a portion of the revenue until those points are redeemed or expire. This deferral for financial accounting purposes may facilitate a similar deferral for tax purposes under Revenue Procedure 2004-34. Revenue Procedure 2004-34 permits deferring income from advance payments for up to one year for tax purposes, but only to the extent the revenue also is deferred for book purposes. The deferral may be used for advance payments for services, goods, the use of intellectual property, and certain other items.
Because the “deferral method” of Revenue Procedure 2004-34 directly ties the timing of income recognition for tax purposes to the timing of revenue recognition for book purposes, a Topic 606 driven change in the financial accounting treatment of a company’s loyalty rewards program also may directly affect the tax treatment of those programs.