The Trick to Boosting Customer Referrals

Wharton’s Zhenling Jiang breaks down the value of referred customers and the psychological motivation behind referrals.

Why Are Customer-to-Customer Referrals So Effective?

Angie Basiouny: Back in the mid-’80s, there was a shampoo commercial starring a young Heather Locklear, who would look into the camera and say, “I love this shampoo so much, I told two friends, and they told two friends, and so on, and so on.” Forty years later, that commercial is pretty dated, but the concept behind it is timeless: word-of-mouth marketing.

Zhenling Jiang is a marketing professor here at Wharton, and we’re going to talk about her co-authored paper on the topic. It’s called “Referral Contagion: Downstream Benefits of Customer Referrals.” Dr. Jiang is also going to give us a free, simple intervention that marketers can use to start their own referral contagion.

Zhenling, there is a lot of literature on word-of-mouth marketing. There’s nothing new about that, but you wanted to look specifically at customer-to-customer referral. Why?

Zhenling Jiang: Referrals are a long-established phenomenon, as the example you were talking about earlier. For companies, it’s a very nice way to leverage the existing customer base to use their social network to grow their customer base. For individual customers, you and me, they also have this intuitive appeal. We trust recommendations coming from, say, our friends or families more so than maybe an ad I’d happen to see online. So, it’s a very nice way for companies to just grow the customer base. And because it’s a behavior that they really want to incentivize, companies very, very often have incentives to encourage these types of referrals.

If I refer a customer to this company, and they indeed make a transaction, very often the existing customer will get some sort of bonus or incentive for their referral behaviors. We see this very often in practice, and we wanted to look at what the value is coming off these referrals. How much should we invest in encouraging customer referral behaviors? Where are these values coming from, these referred customers, as opposed to other, regular customers?

Basiouny: How did you go about studying this?

Jiang: If we think about customer value to a company, very often we start thinking about the value that they bring to the company themselves. If it’s a shopping platform, that means how many purchases I make. What is the margin on those purchases? And how long do I stay as a customer?  It’s the very typical CLV or customer lifetime value concept. What we know from the previous work, it’s well-established that referred customers actually tend to be more valuable from their interaction with the firm, so they tend to buy more, they tend to stay longer. Overall, it makes them a more valuable customer.

What we add in this research is to say that they are not only more valuable because of their own interaction with the companies — not only in more purchases, staying longer — but they also refer more customers. It’s that aspect of the social value that has been overlooked by previous research. Combined altogether, if we think about what the value of a customer is to a company, part of that is coming from my own interaction with the company — how much I purchased, how long I stay. The important part is my social value. Do I bring in more customers by being in the company?

What we established in this research is that we also need to consider this second component, the social value, this refer-other-customers component, as my total value as a customer to the company.

Basiouny: I want to make sure we get in that number that was in your paper. Referred customers can bring in almost 57% more of their referred customers than non-referred customers. Can you explain that just a little bit?

Jiang: The empirical study leveraged a very, very large customer base with over 40 million customers. Using that large customer base, we’re able to quantify exactly how much higher this social component is. Exactly as you mentioned, we find that for referred customers, they will bring in 30% to 50%, depending on exactly what the controls are, more customers than a similar-looking, non-referred customer. Just to look at very similar customers from other angles, then if they were referred, then you are pointing at ballpark 50% more new customers to the company, which comprise a very large social value.

Basiouny: That is a really significant number. That’s something for companies to pay attention to. What is it that makes referred customers want to refer other customers? What is the mechanism there?

Jiang: Yes, that’s a great question. That’s something that we’ve been trying to decipher ourselves when looking at the studies. The first reaction we have is it’s just because maybe they like it more, so they use it more, they tend to buy more, they engage with the company more, which makes them more likely to refer. That’s something, indeed, we see, and we control for that.

Beyond that, we still find that they still tend to refer more, given how much interaction they have with the company. That’s when we uncovered a new mechanism of why they refer more, and that is the social appropriateness. What I mean by that is for a referred customer, which means that this customer has joined the company from a referral. Their friend referred them in the first place, so they would find that it’s appropriate for me to also refer my friends, and I may get some incentives from the companies.

Because they have experienced the act of referring themselves, they would, in turn, feel it’s more appropriate. Of course, this is not something we are going to be able to test out using these 40 million customers that I mentioned before. This is something that we actually get at with the help of lab experiments. Everything is controlled for. Whether you are referred or not referred are perfectly randomized, so people are exactly in the same conditions. And then what we find is that for the people who are just randomly assigned to be in the referred condition — they were told that they join a company through a referral — compared to a customer who was told that they joined the company through seeing an ad. We compare how appropriate and how likely they are to refer other customers.

We exactly replicate this phenomenon that we saw in this large dataset. For the customers who are randomly assigned to be referred, they also say they are more likely to refer others. They consistently feel that it’s more appropriate. They experience less psychological cost for referring other friends. We think this is a very important phenomenon. The psychological barrier is something that is an important phenomenon that prevents people from making more referrals in practice. Having experienced being referred, then they feel it’s an appropriate thing to do. It’s perfectly fine for me to refer others and maybe get a benefit for myself.

Basiouny: That social appropriateness, that feeling good about referring other people, that’s that contagion part, right?

Jiang: That’s exactly right. If you encourage someone to refer more, and these people have experienced the act of being referred, which then, in turn, are more likely to refer even more people. Once you start encouraging more, the contagion starts from there.

How Can Companies Encourage More Customer Referrals?

Basiouny: That gets us to the freebie here, for the companies, that comes in your paper. What is that intervention you’re recommending that companies do?

Jiang: After we find out this mechanism, we’re thinking, “How can we leverage this? What’s the takeaway here?” One easy takeaway is to say, “You should just do more referrals.” Referrals of customers are great. That’s nice to know, and it’s nice to determine how much incentive we should be offering, and this and that. But then we want to look for other types of actionable interventions that a company can have when it comes to referrals.

In the end, we come up with intervention, and it’s a freebie. It’s costless. It doesn’t need companies to invest even in higher incentives. I’ll first talk about what intervention is, and then talk about the rationale behind it.

The intervention is when you send referral invitations to your referred customers, you have a very simple reminder, telling them that they themselves have been referred before. “You have joined from referral, now refer others.” We were able to test this in a large-scale field experiment with more than 10 million referred customers. What we found is that this very simple reminder intervention leads to 20% higher referrals, compared to the control conditions, who also get this invitation to refer, but without that reminder.

It works because by reminding customers that they also joined from this referral, it becomes very salient to them that they have experienced this act of referring, which again makes them feel it’s more appropriate to refer their friends. Companies very often have either emails or push notifications inviting customers to refer. But for the referred customers, if you simply add this reminder, again costless, what we have shown is that it resulted with a large, 20% increase in referred customers.

Basiouny: That’s a big return for what’s simply a change in language. You’re just adding that sentence that says, “You were a referred customer, now it’s your turn to refer others.”

Jiang: Yes, and I think what’s really powerful about this is that we think that the psychological barrier is worrying that, “I shouldn’t be doing this to get an incentive for myself.” It’s an important way to start more customers to engage in this type of behavior. So if we’re thinking more broadly, any type of interventions that help people lower the psychological cost will be an effective strategy. For the referred customers, simply reminding them acts as an effective strategy. But I actually believe there are more different types of interventions that can be done by getting at a core concept of feeling it is an appropriate thing to do for them.