RFM is a method of customer segmentation on the basis of three factors - Recency, Frequency and Monetary Value.
It's important for every marketer to know and consider customer behavior and purchase patterns when taking marketing decisions.
Recency: A customer who bought your product only a few days ago is more likely to be responsive to a promotional offer than someone who purchased months ago. For example, a new parent who purchased a onesie for his 6 months old will respond better to a sale on the similar segment than a parent who bought a year ago. This segment may open up huge upsell and cross sell opportunities.
Frequency: A loyal customer is always critical as they ensure regular revenue even if the average purchase is not so high. Not only that, they also help in spreading the word and creating brand impressions so keeping them intact is a crucial part of retention strategy.
Monetary Value: Talk about the 80/20 rule. 20 percent of the customer drive contributes to 80 percent of the revenue most of the time. Knowing both the brackets 20% and the 80% is equally important to evaluate the CLTV of your customer and taking tactical decisions
How RFM works?
To explain this, let's take a sample dataset of 10 customers and their purchasing patterns in respect to the above 3 factors:
Now, let's rank them for each of the categories separately and overall.
In the above given example, it can be seen that customer D has made the most recent purchase and the best to be targeted for an upsell. On the other hand, Customer A is the loyal one who often purchases the product and customer D shows the highest average purchase order. Even though customer D ranks highest on both recency and monetary value, customer A ranks highest in the overall category.
Scores may also be assigned to customers based on broader categories to have a broader classification of customers e.g. a score of 5 may be given to a customer who buys between 15-25 times like customers D,E & H would fall in the same bracket in the above example.
An overall score or rank gives a fair idea of the customer behavior, however, it is better to rely on the individual rank or scores as the weightage of each category may differ as per the nature of the business. For example, in a furniture business a customer will usually have low frequency or in a stationery business will have low monetary value but high frequency.
Why is RFM important for your growth?
Targets customers at the right time : Hit the iron when it is hot! The proverb holds true for the recent buyers. They have recently tested your product and their memory is fresh. If they’ve liked your product, there are high chances that they will positively respond to an offer again. A woman who just bought a lip color may go for one more shade if the offer is made right.
Saves the loyalists : Do you tend to take your loyal guys for granted? A changing frequency pattern immediately tells something is not right. A customer who ordered his monthly grocery suddenly cuts down on the dairy products. Your customer support can reach out to know the reason if they got lactose intolerant or actually changed their vendor.
Value the High CLTV: Even though Mr. A purchases only once a month but his average purchase value is higher than 80% of the customer base of a furniture business. A free credit value in his wallet is worth a retention strategy.
Saves time and effort: Some customers might seem very engaged but actually eat away your time and effort because their Monetary value is very low even though their frequency might be high. Time to change your strategy for this category.