Cash-back rewards versus equity-based electronic loyalty programs in e-commerce

Loyalty is a crucial part of today’s business because retaining a customer is generally less expensive than attracting a new one. This relationship also holds true in e-commerce. Most of the e-loyalty programs available on the Internet utilize cash-back rewards. A new type of e-loyalty program in which customers are offered a fraction of merchant firm’s equity is emerging recently. The profitability of this approach versus cash-back reward programs is still an open question. In this paper, we first survey current e-loyalty programs, and then develop a two-period duopoly model in which one of the firms gives customers a small fraction of its equity and the other offers cash-back reward for a purchase. We derive analytical conditions to compare the total profits generated through each loyalty program. In particular, we find that equity-based e-loyalty programs provide higher total profits than those of cash-back programs in markets where it is difficult for customers to switch between firms.

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