RFM Analysis For Successful Customer Segmentation

In today’s fast-paced and competitive business world, understanding your customers’ behavior is more important than ever.

That’s where RFM analysis comes in – a proven methodology that allows you to segment your customers based on their transaction history and identify your most valuable customers.

By leveraging the RFM framework, you can tailor your marketing efforts to specific customer groups, increase customer retention, and boost your bottom line.

But what is RFM analysis, and how does it work? Let’s find out.

What is RFM Analysis?

RFM (Recency, Frequency, Monetary) analysis is a proven marketing model for behavior-based customer segmentation. It groups customers based on their transaction history – how recently, how often, and how much they have purchased.

RFM helps divide customers into various categories or clusters to identify customers who are more likely to respond to promotions and also for future personalization services.

Analyzing RFM is so crucial because it takes into account multiple aspects of customer behavior, rather than just one.

For example, you can say that people who spend the most are your best customers. Most of us agree and think the same.

But wait! What if they purchased only once? Or a very long time ago? What if they are no longer using your product?

So..can they still be considered your best customers? Probably not.

Judging customer value on just one aspect will give you an inaccurate report of your customer base and their lifetime value.

That’s why, the RFM model combines three different customer attributes to rank customers.

If they bought in the recent past, they get higher points. If they bought many times, they get higher scores. And if they spent bigger, they get more points. Combine these three scores to create the RFM score.

Finally, you can segment your customer database into different groups based on this Recency – Frequency – Monetary score.

Customer Segmentation using RFM Analysis

You can create different types of customer segments with the RFM framework, but here are 11 segments we recommend.

Think about what percentage of your existing customers would be in each of these segments. And evaluate how effective the recommended marketing action can be for your business.

Why Email Marketing Campaigns Fail?”

Consider this case…

Carol has put up the perfect email newsletter – content, design, subject line, call to action, social media links… She sends out the newsletter expecting stellar conversion rates. Her mental math reasons that even if it converts at a “low” 10% rate on her 3500 customers, she’d be richer by a few thousand dollars within hours.

Ten minutes.. half an hour.. two hours..8 hours pass. But at the end of the day, it’s only 1.5% of people who clicked the link and a single sale.

Very disappointing, isn’t it?

What did she miss out on?

Carol did everything perfectly, except one – targeting.

She sent the same email to everyone.

I’m sure you’d agree: different customers react to different messaging.

A price-sensitive customer will grab a discount offer, but someone who regularly buys from you may get excited only about a new product launch.

That’s the catch!

Instead of reaching out to 100% of your audience, you need to identify and target only specific customer groups that will turn out to be most profitable for your business.

We are leaving gold on the table…

Most of us are not even close to Carol.

Whether you are in online commerce, retail, direct marketing, or B2B – most of us are so busy with daily chores that we don’t spend enough time on marketing. Our marketing campaigns are hurried, fall short on copywriting, lack professional design, and we don’t pay enough attention to tracking or improving conversions.

Of course, we wish to do all of that. But we don’t.

What if we understood our customers a little better and sent them more relevant campaigns?

I promise our success rate will be much higher.

Not only will we make more money, but our customers will also be happier and more loyal.

Still not convinced yet? You will be in a few minutes.

Benefits of RFM Analysis: Here’s How Analyzing RFM Becomes Super Useful…

Sending a message tailored to the customer group will generate much higher conversions.

Isn’t it obvious?

All marketing campaigns should pick up a target segment first, then create promotional material that will resonate with that audience, and then put the pedal to the metal.

Unfortunately, most of us don’t do that.

RFM Segmentation Readily Answers These Questions for Your Business…

• Who are my best customers?
• Which customers are on the verge of churning?
• Who has the potential to be converted into more profitable customers?
• Who are lost customers that you don’t need to pay much attention to?
• Which customers you must retain?
• Who are your loyal customers?
• Which group of customers is most likely to respond to your current campaign?

Proven Effectiveness – Decades of Academic and Industrial Research

RFM has a track record of decades. It’s not a fad or a marketing gimmick. It’s a scientifically proven process.

First of all, it’s based on the Pareto principle – commonly referred to as the 80-20 rule.

Pareto’s rule says 80% of the results come from 20% of the causes.

Similarly, 20% of customers contribute to 80% of your total revenue.

People who spent once are more likely to spend again. People who make big-ticket purchases are more likely to repeat them.

Pareto Principle is at the core of the RFM model. Focusing your efforts on critical segments of customers is likely to give you a much higher return on investment!

Roots in Direct Marketing, Database/Catalog Business

The concept of RFM was originally introduced by Bult and Wansbeek in 1995. It was used effectively by catalog marketers to minimize their printing and shipping costs while maximizing returns.

The rising popularity of computerization made it even easier to perform RFM studies because customer and purchase records were digitized. An extensive study by Blattberg et al. in 2008 proved RFM’s effectiveness when applied to marketing databases. Numerous other academic studies have also approved that RFM reduces marketing costs and increases returns.

Windsor Circle reported significant success using RFM for their retail customers:

• Eastwood increased their email marketing profits by 21%
• L’Occitane saw 25 times more revenue per email. 25 times, not 25%…
• Frederick’s of Hollywood recorded conversion rates as high as 6-9% in their campaigns

I hope you are now convinced about the usefulness of analyzing RFM for your own business.

Now let’s get on the math behind all those results.

[Simple calculation] How to calculate the RFM Score for Each Customer?

Wondering how to calculate RFM scores for your customer database? Here’s how…

We need a few details of each customer:

• Customer ID / Email / Name etc: to identify them
• Recency (R) as days since last purchase: How many days ago was their last purchase? Deduct the most recent purchase date from today to calculate the recency value. 1 day ago? 14 days ago? 500 days ago?
• Frequency (F) the as total number of transactions: How many times has the customer purchased from our store? For example, if someone placed 10 orders over a period of time, their frequency is 10.
• Monetary (M) as total money spent: How many $$ (or whatever is your currency of calculation) has this customer spent? Again limit to the last two years – or take all time. Simply total up the money from all transactions to get the M value.

RFM Analysis Example

Consider customer Robert Johnson – he last ordered 3 days ago and placed a total of 6 orders worth $540 till date.

Applying the RFM Score Formula

Once we have RFM values from the purchase history, we assign a score from one to five to recency, frequency, and monetary values individually for each customer. Five is the best/highest value, and one is the lowest/worst value. A final RFM score is calculated simply by combining individual RFM score numbers.

Remember, RFM values and RFM scores are different. Value is the actual value of R/F/M for that customer, while Score is a number from 1-5 based on the value.

Look at the table below. To calculate the score, we first sort values in descending order (from highest to lowest). Since we have 15 customers and five scores, we assign a score of five to the first three records, four to the next three, and so on. For the overall RFM score, we simply combine the R, F, and M scores of the customer to create a three-digit number.

Note: The most recent purchases are considered better and hence assigned a higher score.

Thus, customers who purchased recently, are frequent buyers and spend a lot are assigned a score of 555 – Recency(R) – 5, Frequency(F) – 5, Monetary(M) – 5. They are your best customers. Alexander Diesel in this case, is not Ammar Fahad – the highest spender.

On the other extreme are customers spending the lowest, making hardly any purchase, and that too a long time ago – a score of 111. Recency(R) – 1, Frequency(F) – 1, Monetary(M) – 1. Andy Smith in this case.

Makes sense, right?

Now let me quickly explain why we made groups of three for each score.

How to Calculate the RFM Score on a Scale of 1-5?

Different businesses may use different methods of RFM formulas for ranking the RFM values on a scale of 1 to 5. But here are the two most common methods.

Method 1: Simple Fixed Ranges

An example:

If someone bought within the last 24 hours, assign them 5. In the last 3 days, score them 4. Assign 3 if they bought within the current month, 2 for the last six months, and 1 for everyone else.

As you can see, we’ve defined a range for each score ourselves. Range thresholds are based on the nature of the business. You’d define ranges for frequency and monetary values like this too.

This scoring method depends on the individual businesses – since they decide what range they consider ideal for recency, frequency, and monetary values.

But there are challenges with such fixed period/range calculation for RFM scores.

As the business grows, score ranges may need frequent adjustments.

If you have a recurring payment business, but with different payment terms – monthly, annual etc – the calculations go wrong.

Method 2: Quintiles – Make Five Equal Parts Based on Available Values

Recall your school days. There was a term – Percentile in maths. Percentile is simply the percentage of values that fall at or below a certain observation.

Here’s a graphic from MathIsFun.com that explains this clearly:

Quintiles are like percentile, but instead of dividing the data into 100 parts, we divide it into 5 equal parts.

If you understand percentiles, it’s easier to understand quintiles. If we make five equal ranges of percentile, a percentile score of 18 will fall in the 0-20 range, which would be the 1st quintile. A percentile value of 81 will fall in the 80-100 range, and hence 5th quintile.

This method involves slightly complicated math but solves a lot of problems in the fixed range method. Quintiles work with any industry since ranges are picked from data itself, they distribute customers evenly and do not have crossovers.

Quintiles are our recommended method to calculate RFM score. We use quintiles for creating RFM segmentations in Putler – our business analytics and marketing insight solution for online merchants.

Visualizing RFM Data

A graphical representation of RFM will help you and other decision-makers understand your organization’s RFM analysis better.

R, F, and M have scores from 1-5, there are a total of 5x5x5 = 125 combinations of RFM value. Three dimensions of R, F, and M can be best plotted on a 3D chart. If we were to look at how many customers we have for each RFM value, we’d have to look at 125 points of data.

But working with 3D charts on paper or a computer screen is not going to work. We need something in two dimensions, something easier to depict and understand.

A Simpler Representation

In this approach, we plot frequency + monetary score on the Y-axis (range of 0 to 5) and recency (range of 0 to 5) on the X-axis. This reduces possible combinations from 125 to 50. Combining F and M into one makes sense because both are related to how much the customer is buying. R on the other axis gives us a quick peek into re-engagement levels with customers.

Consider a subscription business for example. For a customer with a monthly subscription of $100, their monetary value will be $1200 for the full year, but the frequency will be 12 owing to monthly billing.

On the other hand, a non-recurring business, or annual subscription at $1200 indicates good monetary value but the frequency is only 1 due to a single purchase.

The customer is equally important in both cases. And our approach of combining frequency and monetary scores gives them equal importance in our RFM analysis for customer segmentation.

Making it more Effective – Creating RFM Segments

Understanding 50 elements can still be tedious. So we can summarize our analysis into 11 segments to understand our customers better.

If you recall, we discussed these segments at the beginning of this article.

Here’s a table that explains how you can create 11 customer segments based on RFM scores.

Our Ultimate RFM Analysis Presentation

Giving a distinct color to each segment will allow easier recall. And if we select colors wisely, our pictorial representation of RFM will be much easier to share and understand.

So here’s our final RFM summary report!

Software/Tools for RFM Segmentation and Analysis

With an increasing focus on customer relationship management (CRM), RFM has become an integral part of marketing and business analytics. If you are doing a one-off evaluation of your customers’ shopping behavior, you can get away with performing a manual or semi-automated RFM analysis.

But if you have a slightly large database, you don’t want to do all the complex calculations yourself.

RFM Calculations using Excel

Bruce Hardie and Peter Fader wrote a detailed note about using Excel to calculate RFM scores. They also have a sample Excel file that you can use. But this note is from 2008 and may need updates.

There is also an Excel template from UMacs Business Solutions that sells for $3.99.

There is a walkthrough for setting up RFM segmentation in Excel on CogniView’s site as well.

Another resource I stumbled upon was by Dave Langer, a data analytics enthusiast. Here is a brief video on how he performs RFM calculations using Excel.

Some CRM Tools do RFM

There are many CRM software that can automatically calculate RFM scores and segment your customers. Check with the CRM of your choice if they already have RFM support.

RFM Segmentation using Python / R and Other Analytics Tools

R and Python are popular for statistical and business analytics. If you have your own data science team, it would be best to create a custom RFM framework for your business using your existing tools.

RFM Segmentation for Shopify, BigCommerce and TicTail

RetentionGrid is a software service specialized in analyzing RFM. It can bring in data from your Shopify, BigCommerce, or TicTail store and show beautiful visualization of RFM segments.

RFM Analysis and much more for all Online Stores

Putler provides comprehensive RFM analysis and gives you many other business analytics and reporting tools. It’s built for e-commerce and supports automatic sync with major payment gateways and e-commerce systems. Putler also gives you detailed reports on a whole lot of other things – sales, products, and visitors.

RFM analysis in Putler is available in the customer dashboard. Here’s how it looks.

RFM Analysis in Marketing

Putler’s RFM analysis helps marketers find answers to the following questions:

• Who are your best customers?
• Which of your customers could contribute to your churn rate?
• Who has the potential to become valuable customers?
• Which of your customers can be retained?
• Which of your customers are most likely to respond to engagement campaigns?

Variations of RFM model

RFM is a simple framework to quantify customer behaviour. Many people have extended the RFM model and created variations.

Two notable versions are:

• RFD (Recency, Frequency, Duration) – Duration here is time spent. Particularly useful while analyzing consumer behavior of viewership/readership/surfing-oriented products.
• RFE (Recency, Frequency, Engagement) – Engagement can be a composite value based on time spent on a page, pages per visit, bounce rate, social media engagement, etc. Particularly useful for online businesses.

You can perform RFM Segmentation for your entire customer base, or just a subset. For example, you may first segment customers based on geographical area or other demographics, and then by RFM for the historical, transaction-based behavior segments.

Our recommendation: start with something simple, experiment, and build on it.

Applying RFM Customer Segmentation to Your Business

Marketers have used RFM-based segmentation to optimize their return on investment in marketing campaigns for years. This is typically done by sending targeted messages to those 11 segments we discussed earlier – or any other custom segmentation that the situation demands.

Customer/User segmentation isn’t something that is alien in the marketing world. The big brands have this down to a T, and the little guys are just waking up to the power behind having a laser-focused strategy – laser-focused on user segmentation.

Neil Patel on   how user segmentation works in content marketing

RFM for Better Email Marketing

Create segmented lists in your email marketing software (MailChimp, Campaign Monitor, etc) from RFM analysis. Then run an automatic drip campaign on each segment. If possible, automate moving people between segmented lists as they move from one RFM segment to another.

You can further segment based on open and click rates, and products purchased. This gives you laser-focused, highly relevant market segments. This strategy drastically improves results.

RFM to Improve Customer Lifetime Value

How much a customer spends with you during her lifetime is based on a number of factors. RFM can assist in many of those aspects – reducing churn, offering upsells and cross-sells to segments that are more likely to respond, increasing loyalty and referrals, selling-high ticket items, and more.

One word of caution though. Do not go overboard. If you keep sending marketing campaigns to one segment of your customers, they may get irritated and stop buying.

RFM Segmentation for New Product Launches

Promoting new products to loyal customers is a great way for getting initial traction and feedback. You can contact your champions and loyal customers even before building a product. They can provide you with great insights into what to build and how to promote it. This group of people will also happily refer your product to their circles of influence.

RFM to Increase Loyalty and User Engagement

If you run a loyalty program, Potential Loyalist is the first segment you may target. You want to make sure their initial experience with your product and service is pleasant and memorable. Follow up with a few timely promotions and they are highly likely to buy again. Sending educational content to these customers will also increase their engagement with your brand.

RFM to Reduce Customer Churn

At Risk and Hibernating are two segments that you need to pay special attention to. Send personalized emails or call to reconnect with these customers. You may even offer repeat purchases at a discount or run surveys to address their concerns before you lose them to competitors/alternatives.

RFM to Minimize Marketing Costs and Improve ROI

Un-targeted marketing campaigns can be expensive. Focusing on a smaller segment of customers will significantly reduce costs, allow you to do more experimentation, and make decisions based on data.

As a matter of fact, the roots of RFM are in direct marketing. Where they reduced the costs of printing and shipping catalogs by targeting only those customers that were more likely to respond to these campaigns. So whether you are doing digital marketing, print or media, segmentation will reduce your costs and improve your return on investment.

RFM for Remarketing/Retargeting Campaigns

Remarketing is a smart technique where you show your ads/promotions to people who’ve been to your site at least once – but are now on some other site. They will see your ads on the other sites they visit – this improves click rates and overall effectiveness.

A simple way to use remarketing with RFM can be to export a segment of your customers – especially the Recent Customers or Promising ones – to Facebook Audiences or other campaign management solutions you are using. Then show promotions to that group of people.

RFM to Understand Your Business Better

Most small businesses do not fully understand their customers. They may not know their customer demographics or firmographics. Collecting and understanding this information can also be time-consuming and costly.

RFM analysis becomes a quick method to understand your customers’ behavior. And since it is based on actual transaction history, it’s much. Looking at different RFM segments can reveal insights about your own business. Asking questions about how your segments compare to each other can open up huge opportunities for growth.

How to Use RFM Analysis – Practical Strategies

Now that you know how to analyze RFM, you must be thinking about how to put the RFM segments to use, right? Well, there are a number of ways you can do that. Take a look at what strategies you can implement for each of the 11 RFM segments-

RFM Analysis FAQs

What is RFM Segmentation?

RFM Segmentation is a method of segmenting customers based on their buying behavior. While analyzing RFM segments, customers are scored based on three factors – Recency, Frequency, and Monetary Value. It groups customers based on their purchase history – how recently, with what frequency, and of what monetary value did they buy.

Why Would a Company Use RFM Analysis?

Companies can analyze RFM to segment customers, send out targeted emails, improve customer relationships, increase ROI, improve marketing, reduce marketing costs, better retargeting, reduce churn, and a lot more. Explore these practical applications in-depth here.

Summary of RFM Segmentation – Pros, Cons, Recommendations

RFM technique is a proven marketing model that helps retailers and e-commerce businesses maximize the return on their marketing investments.

Advantages of RFM Segmentation and Analysis

• RFM is useful for different types of businesses – online, retail, direct marketing, subscriptions, non-profits…
• You get to know different customer segments and can identify your best customers
• RFM helps craft highly targeted marketing campaigns
• It aids customer relationship marketing and customer loyalty
• Combine it with other tools to get detailed customer analytics and customer insights
• RFM reduces marketing costs due to optimized targeting
• It decreases negative reactions from customers due to controlled targeting

Some Limitations of RFM:

• It may not be useful when most customers are just one-time purchasers
• When you sell just one product and that too only once, RFM may not be suitable
• RFM is historical analysis. It is not for prospects.
• Without a software/tool, calculating RFM scores and segments can be complex
• Sending too many campaigns to one particular segment can upset customers

Run RFM Analysis and Segment Customers within Seconds using Putler

RFM looks great on paper but it gets complicated if you need to implement it from scratch. So you either need to DIY by building an algorithm or consult a marketing agency to do it for you. In both cases, you lose a lot of time as well as money. That’s where businesses lose interest and give up on RFM segmentation.

Here’s where Putler steps in

Our analytics tool Putler has a ready-to-use RFM chart. Once you connect your eCommerce platform, payment gateway to Putler, it automatically process all client data and divides them into 11 segments based on recency, frequency and monetary parameter.

Fun fact: Calculating RFM literally take just 3 steps in Putler.

Steps to run RFM analysis within Putler

1. Connect your data sources to Putler
2. Go to the Customers dashboard
3. Click on any RFM segment. Done!

Here’s how the RFM chart in Putler looks –

Advantages of using Putler’s RFM analysis Over that of Competitors

Saves time
Time is of the essence. We understand that as business owners, your time is precious. And we value it. At Putler, the RFM analysis is 100% automated. You don’t need to do any manual calculations of the RFM score, no dabbling with excel sheets or whatsoever. Putler will analyze your customer database and divide customers based on their shopping behavior into 11 segments. You need to simply click the RFM segment you want to work on and Putler will show you all the customers that fall in that segment.

No coding knowledge required
Not every business is backed by an in-house technical team and we understand that. So we made Putler’s RFM Segmentation super simple. You require no coding skills to use, understand it. Putler does all the heavy lifting and provides you ready to use segments within seconds.

Very affordable
If you had to create an RFM tool from scratch or resort to third-party marketing agencies for segmenting your customers, you would end up spending thousands of dollars. Right? Also consider, RFM is not the end step. It is just the start, once you segment customers you need to allocate budget to carry out marketing activities like retargeting, sending targeted emails, improving marketing, etc. Meaning you need to spend even more money once you have the RFM segments in hand. Considering all this, Putler makes RFM affordable for everyone. You just need to opt for the middle plan (Growth – $79/mo) and you can segment your customers in under $80. Steal?

User friendly
RFM analysis has multiple uses. It needs to be accessed by marketers, consultants, support guys, top-level managers, etc. So inorder to cater to all these groups, Putler has made the RFM interface super easy to use and super simple to understand.

Real-time RFM analysis
Putler’s RFM analysis is based on real-time data. That means, as and when a customer purchases something from your store, Putler will run the RFM analysis on the customer and add him/her to an appropriate segment based on the RFM score calculated. Real-time RFM analysis ensures that all your customers are segmented at any point of time.

Ability to filter on RFM segments
Putler’s RFM analysis divides customers into 11 segments based on recency, frequency and monetary. But that’s not it. You can further drill down these segments based on various parameters like – order status, products purchased, customer since, geolocation, pricing and lot more. This ability to further filter customers belonging to a particular parameter helps you narrow the targeting and improve marketing even further.

Try Putler for Free

It’s completely your choice – If you have an online business and you want to run the RFM analysis on your customer base and divide them into various segments, then Putler is a great way to start. Putler has a 14 day FREE trial. You get access to all the features (including the RFM segmentation).

Note: The trial will only pull in the last 3 months of data. So you can segment customers who have purchased from you in the last 3 months in the trial version. Once you try the trial and are convinced about the product, pick the Growth plan and Putler will pull in more historic data. You can then run RFM segmentation on older customers as well.

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