The Cost of Loyalty Fraud – and Your Exposure – may be More Than You Think

Apr 30, 2018


We have seen from high-profile cases that loyalty fraud losses can range from a low of $50 up to $260,000 per instance[1]. High-profile publicly exposed fraud cases report the actual value of the points stolen and sometimes includes compensation that needs to be given to the members who had their points stolen. But the cost for such a loss is much greater than just the immediate points and compensation for the fraudulent transaction itself. It ignores two of the largest aspects of any incident, which are:

  1. The decline on an impacted customer’s lifetime value
  2. The associated word of mouth reputational damage to the brand

Calculating a fraud loss – include the “hidden” costs

To estimate a business’ fraud exposure from a single incident, 6 key categories should be considered:

  1. Value of points stolen
  2. Reimbursement to loyalty victim(s)
  3. Additional compensation to the victim(s)
  4. Internal/external fraud investigation costs
  5. Reduced lifetime value of the direct victim(s) due to lost loyalty after experiencing fraud
  6. Brand reputational damage expressed as customer lifetime value of current and prospective customers (equal to that of the victimized customer) who have reduced loyalty as word of mouth experience is shared


A few merchant-specific Key Performance Indicators (KPIs) are required to calculate the potential exposure for a single fraud incident affecting one customer. This potential exposure will vary by industry and merchant metrics. Formulas for calculating fraud and changes in lifetime value are known in the industry, but you really need to pay attention to the difference it makes by the type of customer who experiences fraud.

Focus on KPIs

The KPIs required to calcuate the potential loyalty fraud loss are focused on the average customer behavior, lifetime value of a customer and typical loyalty program points balance.

  • Average customer order value
  • Average customer visit frequency
  • Retention rate
  • Average customer point balance
  • Customer lifespan

Impact to most valuable customers

An additional consideration when estimating a merchant’s potential exposure is focused on your most valuable customers (MVC). Remember that loyalty points are disproportionately earned by the MVC. Your MVCs, generally the top 15-20% of your customer base, are the highest spenders and likely have a higher points balance. They also are likely to comprise a greater percentage of your loyalty program participants. Therefore, you should consider running the same metrics as above using the averages for your MVCs, instead of the averages across all customers.

Sample calculation for fraud loss exposure

Following are the assumptions we use to calculate the potential fraud loss from one customer:

Key assumptions for estimating single incident fraud exposure:

  • Average purchase amount – $200 per order
  • Average frequency of visit – 5 times per year
  • Average points balance – 15X avg. purchase amount
  • Customer lifespan – 10 years
  • Retention rate – 70%
  • Behavior of the top 15-20% customers – +20% increase of avg. purchase and visit

With these assumptions for a particular merchant, and using a traditional lifetime value equation[2], the total cost of a one customer loyalty fraud loss can vary from an estimated $13,800 for an average customer up to $20,216 for a top 15-20% customer (based on above assumptions). If a multiple fraud loss occurs, e.g., a hacker accesses multiple member accounts occurs, this loss will be multiplied by the total number of customer accounts breached.

As this example demonstrates, a single fraud incident cost can vary – depending upon your specific KPIs and impact to your most valuable customers. If your most valued customers are targeted by fraudsters, the size of the total loss could increase significantly.

With this in mind, it makes good business sense to put in place fraud prevention best practices[1].

Kobie offers a multi-pronged loyalty fraud solution which encompasses the full loyalty program lifecycle – program design, program audit of terms and conditions, estimating your potential fraud exposure, and on-going fraud management best practices.

To learn more about how we can help protect your loyalty program, get in touch with your Client Services Representative or email us at

[1] See Kobie POV: High Profile Loyalty Fraud Cases and Categories of Fraud

[2] Customer Lifetime Value Equation: Customer lifetime gross margin = (avg. purchase amount * annual visit frequency * avg. customer lifespan). Customer Lifetime value = customer lifetime gross margin * (retention rate / (1 + discount rate – retention rate))