The “Endowment Effect” to increase your Business Referrals

Let me ask you a question –

Would you trade your current car for one that’s worth a few thousand more?

Most people will answer negatively to this questions…even though, from a financial point of view, it’s a great trade.

It was proven time-after-time, that we get attached to the things we own and subsequently put more value on them.

This called: ‘The Endowment Effect” [see more here].

Thaler (1980) coined the term “endowment effect” to refer to the finding that randomly assigned owners of an object appear to value the object more than randomly assigned non-owners of the object, Or, as Thaler puts it:

“goods [that] are included in the individual’s endowment will be more highly valued than those not held in the endowment, ceteris paribus.”

The first time, I faced with the ‘endowment effect’ was a few years ago when I got by post a VIP card issued by a hotel chain that I had hardly used during my travels, I was surprised and had some mixed feelings about it. 

Indeed, service companies purposefully offer elevated status to some customers who do not meet the required spending level, in an attempt to profit from the profound allure of status. Later on during the research for this blog I found out that it called ‘status endowment’.

In psychology and behavioral economics, the endowment effect (also known as divestiture aversion) is the hypothesis that people ascribe more value to things merely because they own them.

The Endowment effect was checked during a great study done by Daniel Kahneman, Jack L. Knetsch together with Richard H. Thaler.

The social scientists distributed coffee cups to half of the students but left the other half empty handed.

The former group estimated a selling price and the later group a buying price. Would the students with coffee cups ask for more?

They also asked those former subjects if they would be willing to trade their original item for an equally valued pen or sell it to one of the other participants.

And the results were fascinating.

The research showed that in a world without the endowment effect, the participants who were originally given the mug would have said that they would sell it for roughly the same amount that people were willing to pay for it.

However, the research results showed that none of the subjects given a mug traded it for the pen even though it was worth the same amount.

Moreover, they found that the amount participants required as compensation for the mug once their ownership of the mug had been established (“willingness to accept”) was approximately twice as high as the amount they were willing to pay to acquire the mug (“willingness to pay”).

In practical terms, the participants in the experiment got attached to the mug once they owned it.

But how does this effect to do with building business relationships and creating more referrals for your business? And how can you use the endowment effect in your business?

Applying the endowment effect to your business

I assume you were exposed more than once, at online stores or offline, to the use of the endowment effect but you were not aware of it.

Did it ever happen to you that you got, as a customer, a sample before the store owner ask you to buy?

And online?

This is exactly how online store getting us to become clients and a referral source by letting us sign for a free trial of their product.

After the trial period is over, most of us will value the account high enough that the price the company is asking for, will seem minuscule.

This is exactly a direct implementation of the endowment effect in practice. 

That’s exactly the link I want you to understand between behavioral economics and getting referrals to your business.

One certain point – customers are more willing to take action to prevent a loss than to gain something.

That is even if ownership of the thing is implicitly granted.

It tells us that your potential clients value something more when there is less of it, and when they can’t get it back.

So how can you use this knowledge and the endowment principle to attract more referrals to your business?

You certainly need to give your clients something unique. Make it valuable by making it scarce. “Threaten” to take it away. Let me explain a bit more.

Part #1: Give them something

You need to find something valuable to incentivize your clients. The choice you will make is very significant in growing your referrals.

To help you: think of the specific value that your service or products produces, and try and replicate that.

For example, Google famously realized that their currency was the free cloud storage space, and offered more of it as an incentive to encourage their users to refer their friends. Try and figure out your currency and offer more of that to your customers.

Another way to help you find something valuable to your clients is complimentary goods that your specific users would appreciate. Maybe some product that is complimentary to your service or product. Think unique.

Many times you can get this valuable product or service by collaborating with some other business owner.

Do you need some ideas?

You can give a special book that gives extra knowledge to your clients; You can give them a ticket to a special limited conference or event. Etc.

If I refer back to the VIP card I received from the hotel chain – the status endowment. On the one hand, customer gratitude – in that case me – enhances loyalty, since I got something, yet customer skepticism acts as an opposing force.

Do you start getting it? 

Part #2: Something valuable

Many researches proved that offering a specific type of incentive will create a specific type of behavior from the receiver.

For example, when I published my bestselling book “The Attention Switch” I have created something special and valuable. I did publish two versions of my book. One is my general version that people can purchase on their own online.

But to support my business ambassadors, like early adopters, and people who support my message, I created another version of my book – the LIMITED EDITION [www.attentionswitch.com].

This edition of my book only goes with me and it gets the people who get it access to an elite group of their super-user peers and many more benefits. [you can get your copy of the Limited Edition on: www.attentionswitch.com]

I suggest that you also consider producing a limited-edition item.

It can also be only a unique feature that you can add to your regular product. For example, a special VIP ticket to your event with special benefits; a signed books by the authors etc. This is something special and valuable.

 Part #3: ‘Threaten’ to Take It Away

You need to give your contacts an incentive but it should be positioned as belonging to them already.

They need to understand that if they don’t complete the desired behavior in the given time frame, then they will lose it forever. Thus, you will take advantage of your business ambassadors loss aversions and activate the endowment effect. 

Needless to say, that this need to be genuine and authentic and not any sort of manipulation (that I see some aggressive marketers do).

The use of human behavior to create real ambassadors to your business will create a very real and long-term referrals channel to your business.

Word of caution:

My advice to you: please use care when incorporating the endowment effect into your referrals strategy for your business.

Loss aversion means that a user will be more willing to take action to prevent a loss than to accept gain, but it also means that actual losses have larger effects on your clients and business ambassadors satisfaction than on gains.

Have you leveraged the endowment effect to incentivize your clients or supporters behavior? Please share with me your incentives and how you have framed incentives in terms of a loss.