The Nuts & Bolts of Customer Life Time Value
“CLTV is the net present value of the profits linked to a specific customer once the customer has been acquired, after subtracting incremental costs associated with marketing, selling, production and servicing over the customer’s lifetime” – Robert C. Blattberg, Professor Emeritus of Marketing, Kellogg School of Management.
Customer Life time Value or CLTV is the current assay of the ensuing monetary gains or the value of future transactions ascribed to the customer during his or her entire relationship with the company.
CLTV is the monetary value a particular customer contributes to your business over his or her entire lifespan. It is a very critical gold standard and is put to use while key decisions about sales, marketing, product development, and customer support are taken.
By using the postulate of Customer Life Time Value an organization can swiftly arrive at the monetary value associated with the long-term relationship with any customer. It is difficult to forecast the tenure of each individual relationship, but marketing executives can make a reasonable prediction and state CLTV as a periodic value.
It is an important and useful benchmark used by marketing managers, especially at a time of customer acquisition. Hypothetically, lifetime value should be substantially higher than the cost of acquiring a customer. This is also known as a break-even point.
The basic formula for calculating CLTV is the following :
(Average Order Value) x (Number of Repeat Sales) x (Average Retention Time)
Assume you are the operator of a Health Club in A tier 2 city in India, where the customers pay INR 1000 per month for membership, and the average time that a person remains a member of your club is 3 years.
Then the lifetime value of each customer as calculated using the formula above:
INR 1,000 per month x 12 months x 3 years = INR 36,000
This means each customer is worth a lifetime value of INR 36,000. Thus the business can arrive on the relative spend on customer acquisition through various sources such as events, advertising, social media initiatives, referral programs, etc.
Another method (more accurate) to calculate CLTV is depicted in this image:
Primarily there are two types of CLTV that are generally agreed upon:
- Historic CLTV: calculated simply, it is largely precise when it comes to unprocessed numbers. It is the total profit from previous purchases a customer has made. It envelops all costs related to the buying of a service or product.
- Prognostic CLTV: tenacious in character, it is more pragmatic to a business because it facilitates prediction. This postulate considers existing purchases and the underlying buying behavior. All occurring transactions, along with behavioral data, fortifies this approach. This model helps you progressively forecast and adapt with the ever-changing landscape of consumer behavior.
Business Utilization of CLTV:
“Companies should be willing to pay a premium on advertising to higher CLTV consumers,” says DEG Strategic Planning Director Tony Toubia.
The most effective way to benefit from a CLTV score is to establish definitive variables for the different stages of your customer journey. This enables you with the capability to identify the problems that may be hampering various stages of your customer journey and experience.
If a particular month shows receding performance numbers, you may arrive upon the fact that your retention rate dipped or that you are taking a beating on repeat business. This provides crucial actionable information that you can use to skyrocket marketing strategies and tactics to fix bottlenecks in specific business areas.
“Your CLTV can be based on a number of things and should vary by brand, for example, companies in need of a PR boost could consider scoring individuals who publicly support the company higher for helping draw people in and reassure past customers,” says Travis Mccan, DEG senior relationship marketing strategist.
CLTV scores also help in customer segmentation; this allows the companies to send timely and relevant communication to different segments on the preferred channel of the customer, based on what the companies face in the form of variables from their CLTV calculation.
Food for Thought:
Males aged 54-65 may have a great retention rate but low acquisition rates while females aged 24-35 may have low average order values. Knowing specific data allows organizations to fix business issues within each segment as opposed to making broader changes to the entirety of the business and hoping it affects all segments.
To know more about CLTV please reach out to us here!