Customers with high switching costs

Some products and services naturally have high switching costs for customers. An example would be the operating system on your computer – to change operating systems, you must also change all the applications that run on it.

High switching costs cause two immediate effects:

  1. Difficult to steal share from competitors, since customers won’t switch until the differential in value is equal to the cost of switching
  2. Easy to keep customers in the short term, regardless of what you do to them

The first effect means that it is easiest to grow as the market grows, but difficult to grow in a mature market. The second means that optimizing profits in the short term could lead to problems in the long term. Customers will put up with poor customer service, high upgrade fees, and mediocre quality… up to a point.

These two effects create conflict in management objectives: maximizing short-term profits by raising prices and limiting R&D, versus long-term success by providing value and continually improved products/services to the customer.

The solution? Maximize customer lifetime value (LTV). By making business decisions that will to maximize LTV, management can avoid short-term gains at the expense of long-term success, yet still focus on maximizing profits to create shareholder value.

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