Leading DeFi projects such as Uniswap, Curve, Aave, and MakerDAO have declined in ETH terms since at least the first quarter of 2021. Some see this as a fundamental failure of DeFi protocols to capture value and an inability to create a moat. One wonders if the composable and open nature of crypto prevents the creation of sufficient moats.
I don’t agree with that. I think DeFi projects have done a poor job of creating sticky rewards and utility with their tokens.
In traditional markets, rewards and utility programs are referred to as loyalty rewards programs. In this article, I will argue that loyalty rewards programs can not only create moats, but become a core business of DeFi projects. The reason we haven’t seen this yet is due to an inability to understand how to properly use loyalty rewards programs. To support both parts of this argument, I will examine the airline industry.
The rise of air miles
Modern frequent flyer programs (FFP) were first introduced in the late 1970s. Although airlines previously had programs to track customers, the main innovation of modern loyalty programs was to use tracking of mileage to offer rewards to its passengers. It was a clever marketing tool designed to retain the most profitable customers – frequent flyers.
Since then, it has become much more than a tool to increase customer loyalty. FFPs have become a major source of revenue for airlines. For example, according to this document on loyalty programsin the 2017-2018 financial year, the Qantas Airways frequent flyer program accounted for 23.2% of the profit of the entire Qantas Group.
FFPs are now expanding beyond the airline industry into tourism, banking, telecommunications, insurance and retailers. Airline miles have become an economy in their own right, acting as a virtual currency. Sound familiar?
Why crypto loyalty tokens are superior to traditional ones
Airline miles are the most cash-like of all tradfi loyalty points, but they’re only accepted at participating partners, have minimum redemption thresholds, expiration dates, and more. The key innovation of loyalty tokens in the crypto world is that because you can easily redeem them in fiat, they are equivalent to real money. This means that loyalty points in the crypto world have the same power as real money to acquire customers and incentivize customer behavior. For projects that don’t have access to hundreds of millions of dollars in VC track, loyalty programs present a huge opportunity.
The Failure of Crypto Loyalty Programs
My reflection on this subject was partly informed by this Harvard Business Review article on loyalty programs. This quote sums up the mistakes made by some loyalty programs in legacy markets and almost all crypto markets:
“[T]oo many companies treat rewards as short-term promotional giveaways or monthly specials. Approached this way, rewards can create value by motivating new or existing customers to try a product or service. But until they are designed to build loyalty, at best they will only return a small fraction of their potential value…A business must find ways to share value with customers in proportion to the value that customer loyalty created for the company. The goal should be to develop a system whereby customers are continually informed of loyalty rewards and motivated to earn them. Achieving lasting loyalty, measured in years, requires a sustainable strategic approach.
These are the most salient insights I took away from the aforementioned HBR article. I am convinced that if more projects start to internalize these lessons, they will be able to create and retain value in their project.
The value created must exceed the cost of the rewards delivered.
It seems obvious, but many (perhaps most) DeFi projects with a loyalty component violate this first principle. The playbook usually consists of offering a very high APY for staking in the hope that the seeded liquidity will stick around and the project will reach critical mass. The reality, however, is that mercenary participants will drain your token and move on to the next high APY project the moment your rewards dry up.
The only way to avoid this is a good old-fashioned product-to-market fit. You can drive growth by using loyalty tokens as incentives, but customers need a reason to stay.
Rewards should reinforce helpful customer behavior.
High APY staking rewards are a common example of an unsuitable incentive. In fact, billion-dollar crypto companies are deploying hundreds of millions of dollars into new crypto projects, sucking up all the value, and moving on to the next one. Your rewards teach participants to harm your project. Make sure your rewards encourage behavior beneficial to the project.
Do you want your best clients to actively participate in governance and thus feel more psychologically invested over time? You might consider the viability of rewarding them for their submissions, votes, and community outreach.
Customers are not equal.
It is common for DeFi projects to incorporate tiered reward systems, but too often rewards are distributed in a linear fashion. A more effective model is to make tiered rewards very heavy. This provides a compelling reason for your most valuable customers to stick with you, but it also provides a strong incentive for less valuable customers to move up the ladder – which brings us to the final point:
Rewards must be ambitious.
Excerpt from the HBR article:
“A company that offers average value products and services to everyone is wasting resources by over-satisfying the least profitable customers while under-satisfying the most valuable loyal customers. The result is predictable. Highly profitable customers with higher expectations and more attractive choices are defaulting. »
I have been repeatedly struck by some of the pedestrian rewards in certain projects, such as Netflix, Hulu, or one-month Amazon Prime subscriptions. Does it motivate people, let alone high-end crypto users? It’s definitely not for me.
How about rewards like a bottle of Yamazaki 12 Year Old Whiskey or a new MacBook Pro M1? A few quality rewards seem more appealing than a constant drop of mediocre.
It is often joked that crypto accelerates the whole history of the legacy financial system. I think it is not limited to financial markets. The work done in traditional markets on loyalty programs offers a proven path to loyalty and profitability. I am confident that short-term crypto projects will quickly lead them to victory.
CEO of Bitcoin.com
Dennis is an accomplished executive who is passionate about building great teams and driving economic freedom through cryptocurrency adoption. Dennis joined Bitcoin.com in 2018 as Chief Product Officer and became CEO of Bitcoin.com in 2020.
Image credits: Shutterstock, Pixabay, Wiki Commons