At a conference in London in May 2004, business strategy guru Michael Porter delivered a simple but powerful message: Effective business strategy means being distinctive. How? Business strategy experts say that you can differentiate based on: 1) the core product/service offering, 2) the price or total cost of ownership or 3) the total relationship and customer experience.

Staying ahead of competitors solely through product leadership is becoming more and more difficult. In an interview with Fast Company, Porter stated, "It's arrogant for a company to believe it can deliver the same sort of product that its rivals do and actually do better for very long. That's especially true today, when the flow of information and capital is incredibly fast."

It's also painfully obvious that every business in an industry can't compete using the same cost/price model. Generally only one or two companies can achieve the scale and efficiencies necessary to compete based on low price and profitably sustain this strategy over the long term. Would you like to start a price war with Wal-Mart?

The Rise of Relationship-Based Differentiation
CRM is a business strategy to acquire, grow and retain profitable customer relationships, with the goal of creating a sustainable competitive advantage. Product/price-based differentiation is waning because of four broad trends: maturing markets, global trade, efficient manufacturing and the Internet.

Now CRM is emerging as a critical strategy simply because relationships are coming to the forefront of the competitive battleground. CRM should mean creating mutual wins for customers and all the company stakeholders, including employees and business partners. It's just common sense. Would you willingly continue to do business with a company if you didn't feel you were a "winner" in the relationship?

In Customers Are People: The Human Touch, author Jon McKean states that in competitive markets, where customers have a choice between similar products and pricing, "Seventy percent of customer decision-making is based on how customers are treated." Yet paradoxically, McKean continues on to say that his research finds: "Over 80 percent of customer initiatives are focused on how to 'sell the customer better' through matching products to customers, rather than investing more resources in treating customers better."

Does relationship-based differentiation really work? Tesco thinks so. With humble beginnings as yet another low-cost grocery retailer in the U.K. market, Tesco has grown into the market leader in a few short years by using data-driven customer insight to manage millions of relationships, creating a loyal bond. If you investigate the success of IBM in computer technology, Nordstrom in retail clothing, HSBC in banking, Ritz Carlton in hotels and Singapore Airlines in air travel, you'll find that all of these companies turned customer relationships into a differentiator.

Loyalty and the Bottom Line
Frederick Reichheld, author of The Loyalty Effect and Loyalty Rules, found that loyalty leaders grow, on average, more than twice as fast as the industry average across a wide variety of industries. And they do it more cost-effectively. The reason for this so-called "loyalty effect" is that loyal customers tend to spend more, cost less to serve and refer others.

The net result is that loyalty leaders are head and shoulders above their competitors in growth and profitability. Leading examples, according to Reichheld, range from Harley Davidson to Chick-fil-A to Enterprise Rent-A-Car.

The key question: How does a company create loyal relationships? And remember, we're talking about relationships where customers have real choices. Don't include monopolist industries (as is the case with some utilities or government services) or customers "trapped" behind high exit barriers (such as database software or factory equipment that can't be easily replaced).

Reichheld and other loyalty experts have studied this issue for years and concluded that loyal attitudes and behavior are driven by the customer's perception of value, which is an amalgamation of what the customer receives; how it's sold, delivered and supported; and how much it costs—the price or total cost of ownership. Experts in customer psychology say that customers' emotional states influence about 50 percent of the value they perceive. Jim Barnes, author of Secrets of Customer Relationship Management: It's All About How You Make Them Feel, sums it up by saying, "Value is created every time a customer is made to feel welcome, important and valued."

Simple Metric, Powerful Insight
Loyalty guru Reichheld has found one simple metric to be highly related to growth in most industries: the willingness of a customer to recommend the company (supplier or brand) to a friend or colleague. Using a 0 to 10 scale, a "net promoter" score is calculated by taking the percentage of customers giving the company a score of 9 or 10 ("promoters") and subtracting the percentage giving the company a score of 6 or below ("detractors").

For example, over the past three years, Southwest Airline's net promoter score was two to five times higher than its major competitors. During that same period, Southwest grew at about 5 percent per year, while the rest of the industry was in decline.

In a Bristol Group/CRMGuru study in 2003, Southwest had a "recommendation" rating of 67 percent, meaning that two-thirds of respondents said that they were highly likely to recommend the airline to their friends and colleagues. This was more than double the industry average and nearly seven times higher than struggling United. This referral behavior is a key reason why loyalty matters: Genuine feelings of loyalty drive referral behavior (think "free marketing") to propel growth-and do so very cost—effectively.

Over the past decade, the American Customer Satisfaction Index (ACSI), an organization supported in part by the University of Michigan Business School, has emerged as a valuable source of consumer insight. The ACSI model links customer expectations, perceived quality and perceived value to an overall score (ACSI), which, in turn, is linked to consequences such as customer complaints and loyalty. ACSI leaders—those in the top 50 percent in ACSI rankings—have been able to build market value more rapidly over the past decade. A case in point is Southwest, which has made more profit and created more market (stock) value over the past decade than the rest of the airline industry combined.

Any way you slice it, achieving high levels of customer satisfaction and loyalty compared to your competition is a powerful engine for growth and profitability.