One of the important metrics investors look for is the break-even point for any business to prosper, i.e., when an investment will start generating a positive return. That is the idea behind Customer Lifetime Value (CLV, LTC, CLTV).
Many businesses focus on the resources needed to attract new customers, which is an investment made to acquire a new user and is mostly referred to as CAC or customer acquisition cost. Marketers put in efforts and resources to provide the best customer experience across the customer’s journey from start to finish. But doing so, they are in a dilemma whether these efforts will generate any return on investment or not, and if yes, then how much. And that’s the essence of measuring the CLTV.
What is Customer Lifetime Value?
CLTV indicates the total profit that a business can expect to generate from a single customer account over the lifespan’s predicted course. Therefore, one thing to consider here is that it’s the profit margin that the companies should focus on and not the revenue, as it prevents businesses from overspending, believing that they have more funds available to acquire new customers, which might not be the case.
While measuring the CLTV, all the costs should be accounted for, including the customer acquisition costs (CAC), operating expenses, marketing expenses, and manufacturing expenses. Because of silos and multiple units operating independently, many companies miss out on these costs and measure the CLTV only for a short window with the data they can gather, which might not give a clear picture of the customer’s real value.
How to measure Customer Lifetime Value?
Step 1. Calculate Average Purchase Value
| Average Purchase Value(per transaction) = Total Revenue / Number of transactions |
Step 2. Calculate Average Purchase Frequency
| Average Purchase Frequency (or Average number of transaction in a given Time Period)= Number of Purchases in a given period/Number of Customers |
Step 3. Calculate Average Lifespan of the Customer
| Average Lifespan of the Customer(or Retention Time Period) = sum of customers lifespans/ number of customers |
If you don’t have data for the past 5-10 years, the other way to measure it is to divide 1 by your churn rate percentage.
Step 4. Calculate Customer Value
| Customer Value = Average Sale Value per transaction x Average number of transactions in a given Time Period * Retention Time Period. |
Here, CV measures the average revenue that a single customer brings over his entire lifespan. But to get an accurate picture, we also need to incorporate Cost into account.
Step 5. Measure CLTV
| CLTV = Customer Value x Profit Margin |
Let’s understand how to calculate your CLTV with an example.
Let’s assume a hypothetical case of a shoe store to understand how CLTV can be measured. Say an average customer spends $20 per purchase and purchases 2 times a year from a given shoe shop for 5 years.
The Value of this Customer will be
$20 per purchase x 2 purchases per year x 5-year lifespan = $200
Therefore this customer brings an average revenue of $200 to the shoe company throughout his life span of 5 years.
After calculating the cost of goods sold and other expenses like overhead, administrative, and marketing, the profit margin of the shoe company is 20%.
Therefore Customer Lifetime value of the customer will be $200 x 20% = $40
The average profit that this customer brings to the company is $40, which is far less than the Customer Value or the revenue of $200.
The CLTV will be useful in the following ways-
- Firstly, To project future cash flows.
- Secondly, Understanding how many customers the company should acquire to achieve the desired profits.
- Thirdly, Deciding the Marketing budget and other expenditures for the given time period.
- Lastly, Verifying the quality of customers targeted during the marketing campaign
Factors contributing to the CLTV
- Customer Satisfaction
The happier the customer is with the products and services, the more likely he is to spend more. This will increase the average purchase value of the order and increase the frequency of orders. Companies should continuously work along the lines of providing a better customer experience for high customer satisfaction.
- Customer Retention
Acquiring a new customer is more expensive than retaining the existing customer. Nowadays, the business must identify and nurture the most valuable customers and convert newly acquired customers to a loyal base. Doing so will reduce the churn rates and bring in more revenue, which will have a positive impact on the CLTV.
- Optimized Marketing Spends
Companies need to optimize their marketing efforts. Measuring campaign performance and tracking the critical KPIs will allow companies to develop the right marketing strategy. Companies should continuously explore new channels and do A/B testing to identify the right engagement strategy, reducing the marketing spending, thereby increasing the profit margins and CLTV.
How can you improve your CLTV?
- Rewards and loyalty for customer retention: Rewarding users with points, coupons, digital coins, badges, etc., instill a sense of achievement and hook customers to your brand or product. Using upshot.ai, Puma experienced a 38% increase in retention, for instance.
- In-app push notifications for customer engagement: Leveraging highly personalized push notifications at the right time, with the right message to bring back your customers to your app or store. Leveraging upshot.ai, Panini experienced a massive increase of 300% in revenue, and average paying users went up by 20%.
- Real-time analytics to predict churn: AI-powered real-time analytics based on user data allows you to predict churn or conversion. Adjust your messaging, channels, and overall campaign strategy accordingly to re-engage your customers.
- Ask for customer feedback: Leverage surveys, feedback forms, and NPS to capture your customer feedback. Asking for customer feedback inculcates a sense of belongingness and confidence in your product. Implement relevant feedback to improve your customer experience and satisfaction. Amway leveraged omnichannel micro surveys and experienced a 400% increase in monthly active users.
- Reports and dashboards to measure efforts: Get more in-depth insights into your user’s behavioral, transactional, demographic, sentiment, and psychographic data and measure your campaign effectiveness.
Also Read: What is Deep Linking? And How you can Leverage it to Optimize Mobile User Engagement?
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