Sian Burton, Marketing Strategist
If you feel like you’re behind the curve on calculating customer lifetime value, don’t worry you’re not alone. A surprising number of businesses have been hesitant to try to understand what their CLV is, and even those who do get to a value often don’t know how to make the most of this metric or what benchmarks to aim for.
Yet figuring out your customer lifetime value (CLV, or LTV) can be well worth the effort. For one thing, it gives you a clear picture of how effectively you’re reaching each customer. Since it’s so much less expensive to retain a customer than to attract a new one, low CLV also indicates that you’re leaving a lot of money on the table.
One of the things I love most about CLV is that when you calculate it for your different segments or personas, it actually allows you to compare the real value of each part of the business. It’s also invaluable for determining the ROI of your marketing investment and making strategic decisions about where to put your limited resources as an SME.
What Is Customer Lifetime Value (CLV)?
Simply put CLV is the present value of the projected future cash flow your business will realise from a customer relationship. The ‘projected future cash flow’ part is what makes it so special.
Even if you’re marketing is consistently attracting new clients and customers you may be spending your marketing budget attracting more of your least profitable customers without even realising it. CLV pummels traditional return on investment (ROI) measures because they only reflect the profit you make from a customer on their first purchase.
As an example, consider Subway. If Subway spend $6 to acquire a new customer and receive $12 revenue from that customers first order, some might say you have achieved $6 ROI. But what if that customer only comes once and then reverts back to buying pies from the local bakery? All of that work for a measly $6 (and that’s revenue not profit).
Imagine if you spent a little bit more to find the right customer, one who had become conscious of their health and was looking for a convenient way to buy food that would allow them to trim down a bit at the same time? If you were to spend $9 attracting and nurturing that customer, you would make $3 in revenue on their first purchase of $12.
Imagine if they came back 3 times a week, every week for 6 months until they had finally got back into their jeans, now your ROI is $216.
What if they brought along the guys they worked with who were also looking to slim down and they too came three times a week? Now your ROI is at $648. That is the power of CLV.
You can predict CLV from historical data allowing you to understand who your best customers are and where you should be placing your focus for growth. By looking at the previous frequency of purchase, the total number of purchases before the customer churns, the profit per transaction, and the cost of acquisition, you can get a good idea of what a customer’s lifetime value is likely to be.
Those customers who spend most frequently with you and make the largest transactions become your ‘cream’ – the ones you work very hard to keep happy. The people in the middle are the ones you look to try to upsell, with a goal of moving them into your ‘cream’ client base. As for the ones who rarely buy from you and spend very little when they do, I recommend you stop chasing them and use the time, energy and investment to find and attract more of your ‘cream’ clients.
Understanding your CLV, and working to improve it, can quickly have a profound effect on your bottom-line. Imagine you discover your 20,000 customers currently have an average CLV of $300. If you placed your focus for the next 12 months on increasing that figure by just $50, your revenue would go from $6million to $7million. And that’s before you start working on your acquisition strategy!
That is the power of understanding your CLV.
If you have questions about CLV and would like to discuss them with me, please drop me an inbox message and I’ll be happy to help.
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