Channeling Starbucks, FiveStars Seeks Loyalty in the Form of a Gift Card

The race to small business customer relationship management is accelerating as loyalty, payments, and lead generation players expand their services and widen their footprint. The latest move comes from FiveStars, a universal loyalty play that picked up $14 million in June from a handful of prominent venture firms. The Mountain View, Calif., company has rolled out a new gift card product aimed at helping businesses transform new customers into returning customers through its POS-integrated loyalty platform.

The company has piloted its co-branded gift card with a handful of small retail chains since December and plans to open the feature to its smaller merchants with the release. Recipients who do not have a FiveStars account are immediately enrolled in the loyalty program, and those who are already enrolled can activate it using an existing account. As recipients deplete the gifted funds, they gain loyalty points, which, in theory, helps the recipients transition from one-time customers to loyal patrons.

We’ve heard a lot about gift cards recently, and here’s why: It’s big business when done right. In the fourth quarter of 2012, Starbucks alone processed more than $1 billion on its gift-card platform; and gift card spending accounted for in excess of a quarter of its net revenue. That means more engaged and loyal customers as well as a big chunk of the total transactions being processed without costly credit card fees.

FiveStars CEO Victor Ho says what makes the Starbucks platform work is the marriage of the first experience with the returning experience. It’s one of the few programs where the gift card transitions to a loyalty card as a customer depletes the initial credit added to the account. By the time the gift card is zeroed out, the customer is already engaged with the company’s loyalty framework.

And it’s the repeated pre-loading action after the gift card expires that FiveStars is looking to drive. The company plans to roll out full functionality at some point soon, but it’s that marriage of loyalty and in-store value that creates the “stickiness” of Starbucks card, says Ho.

“We believe that the best and most powerful forms of customer acquisition comes through loyalty,” says Ho, a McKinsey veteran who spent much of his time with the firm building loyalty initiatives for Fortune 500 companies. “If you can tie customer acquisition into the intelligence of actual customer behavior through a loyalty program, then you can have a very powerful tool where you can help businesses find new customers.”

Tying those two pieces together requires deep integrations with the “source code” of a small business either through partnerships involving the point of sale operation, as FiveStars has done, or by controlling the transaction itself (that is, through connected payments).  Ho believes that iPad solution companies like Belly, which operate outside a merchant’s operational structure, will struggle to achieve scale beyond attracting low-volume merchants.

“For a mom-and-pop, [an iPad solution] is inconvenient, but they can probably live with it,” Ho told Street Fight. “But mobile and iPad players have had almost zero success working with larger chains because it just [becomes] operational[ly] infeasible when you consider volume of transactions and all the things you have to [weigh].”

Connected payment players like Square are a looming threat in the space as well. LevelUp has already introduced a payment product that drives revenue through its loyalty services, and others seem to be following suit. Ho admits that payments is a logical entry point but argues that the cost of entry for payment players (those processing the transaction) limits the scale, which a payment-agnostic POS-integrated approach could provide.

With an evolving POS landscape, the payment model pioneered by LevelUp’s Seth Priesbacth and others could find itself in a difficult spot. If the adoption of cloud-based POS accelerates, the worth of a service that provides operational services like payments and value-added services like loyalty and CRM within a closed framework could decline rapidly. Instead, we may see a market in which the POS functions as a platform that opens the data generated from these operational services — its inventory, payment data etc. — to companies like FiveStars that can then build ancillary products on top.

Building loyalty and processing payments are two fundamentally different problems, and while owning one helps the other today, that might change in the future.

Steven Jacobs is deputy editor at Street Fight.