Authors: Puneet Manchanda, Grant Packard, and Adithya Pattabhiramaiah (all University of Michigan)
Publisher: Ross School of Business Working Paper
Date Published: January 2012
Studies show that consumers are spending more of their leisure time online, and U.S. marketers are flocking to third-party social networks such as Facebook and Twitter to reach them. But companies as diverse as Amazon, Buy.com, Disney, IKEA, Kraft Foods, Lego, and Procter & Gamble are also making major investments to build their own consumer-centered online communities. According to a 2011 survey, nearly half of the top 100 global brands host some kind of network.
Are these company networks earning their keep? The short answer is yes. This paper, among the first to tackle the question empirically, tracked the effect of consumer membership in one company-sponsored online network on the amount of money members spent on the firm’s products. Although based only on a single case study, the results appear to be a significant affirmation of the economic value of these networks: The authors found that revenue from members increased by an average of 19 percent after they joined, a result of closer ties with other customers and more engagement with the company.
The revenue increase, called “social dollars” in the paper, represents spending that is over and above the members’ purchase history with the firm — and it similarly exceeds the spending of a control group of comparable consumers who did not join the network.
This increase in income is “economically significant for the firm as it more than covers the fixed cost of setting up the community as well as the variable cost of operating it,” the authors write. The increase is neither a novelty nor a cannibalizing threat to a company’s retail stores, they add. Rather, they say, the jump in social dollars “persist[s] over time, arise[s] in both online and offline channels, and affect[s] all product categories sold by the firm.”
The authors based their analysis on data obtained from a large North American retailer of entertainment and information-related media, such as books, movies, and music. The firm is the largest retailer in its market in terms of sales and operates in both retail store and online environments; about 10 percent of its total revenues came from Internet purchases in 2009.
The company’s online community is similar to Facebook’s — members can manage a profile page that allows them to post personal and product-related messages, convey a sense of their personality and interests, and display their status in the community. There are private and public discussion boards so users can establish friendly ties, start up special interest groups (for example, the “Vampire Movie Lovers Club”), and publish Top 10 lists or product reviews.
The authors analyzed a random sample of more than 26,000 community members, about 10 percent of the total network of 260,000. They examined purchases made by members both online and in stores. They also analyzed community information, such as the date members joined, the friendships they established, and their overall social behavior, including the volume and tenor of public and private discussions, recommendations, and product reviews.
The firm also provided data from before the forum’s launch in September 2007, allowing the authors to create a “pre” period for comparison. A control group was established from customers who purchased at least once from the firm in the 30-month period being studied; some of these customers were loyalty card holders, so their transactions could be tracked both online and in stores.
After controlling for several factors, the authors found that the quantity and quality of friendly relationships with other customers was key. Customers who had many friendly relationships, or who befriended more important or prominent customers, were likely to spend more on the firm’s products. Those who displayed more products on their profile page also tended to rack up purchases.
It doesn’t require many participants to earn a return on the investment of establishing an online community, the authors found. Based on the projected volume of social dollars taken in, and the costs and firm-level margins available in public financial statements, the authors’ conservative estimate is that the firm broke even on its investment when 33,000 of its existing customers signed up.
“Given that the firm acquired 260,000 members within the first fifteen months after community launch, this was clearly a very profitable investment for the firm,” the authors write, “especially as this number is comprised of a mix of both current and newly-acquired customers.”
Aside from the direct economic benefits of setting up the community, the firm has much to gain in other ways. For example, the data paints a clear picture of each customer’s preferences and behavior, the authors write, which is “an informational boon for customer relationship management and other life-cycle based marketing strategies.”
By monitoring which products are becoming more popular and identifying who is discussing them, marketers can optimize their promotional strategies. And the firm also disclosed to the authors that the massive amount of user-generated content produced via the community strongly improves the company’s position in major online search engines.
“While it is likely that hosting customer communities on third-party websites such as Facebook provides reach to a broader audience,” the authors conclude, “this strategy does not offer the same level of access and control over customer interaction management and data offered by a firm-sponsored social network, nor is the third-party community interaction data commonly available to the firm in a manner that can be easily linked to customer-level purchase behavior.”
Consumers who join a company’s online community spend significantly more on the firm’s products than they did prior to signing up or in comparison with similar customers who are not part of the network. The findings indicate that online communities more than justify the investment to create and maintain them, and provide a unique way for companies to connect with customers and monitor their purchases and behavior.