Exam 11: Database and Direct Response Marketing

Correct Answer:

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RFM analysis is a marketing technique used to quantitatively rank and group customers based on their purchasing behavior. The acronym RFM stands for Recency, Frequency, and Monetary value, each representing a specific dimension of a customer's buying pattern:

1. **Recency (R):** This measures how recently a customer has made a purchase. A lower score indicates that it has been a long time since the last purchase, while a higher score means the purchase was more recent.

2. **Frequency (F):** This assesses how often a customer makes a purchase over a given period. A higher score reflects a higher frequency of purchases.

3. **Monetary (M):** This reflects the total amount of money a customer has spent. Customers who spend more are given a higher score.

In the scenario you've described, customers are divided into five groups for each RFM component. These groups are then coded sequentially from 1 to 5, with 1 typically representing the lowest tier (least recent, least frequent, or least monetary value) and 5 representing the highest tier (most recent, most frequent, or highest monetary value).

The result of this coding is a three-digit RFM score ranging from 111 to 555:

- The first digit represents the Recency score.
- The second digit represents the Frequency score.
- The third digit represents the Monetary score.

For example, a customer with an RFM score of 553 would be someone who has made a purchase very recently (5), purchases quite frequently (5), but has spent a lower total amount (3) compared to other customers.

This RFM score helps businesses identify different segments of customers for targeted marketing campaigns. For instance:

- A score of 555 indicates a highly valuable customer who buys frequently, has made a purchase recently, and spends a lot.
- A score of 111 suggests a customer who has not purchased in a long time, does so infrequently, and spends little when they do.

By analyzing these scores, companies can tailor their marketing efforts to retain valuable customers, re-engage those who are slipping away, and incentivize higher spending from those who buy frequently but spend less.