In one of our previous articles, we were talking about the most important KPIs that every marketer should track. One of these KPIs was Customer Lifetime Value.
In today’s article, we will focus our attention exactly on this marketing KPI. We will discuss what is it, why is it so important to track, and what are the golden rules of ensuring your CLV constant expansion.
Structure of this article:
- What is CLV and why do we need to track it?
- Customer Lifetime Value formula with examples
- Five golden rules for increasing Customer Lifetime Value
What is CLV and why do we need to track it?
So, what exactly is a Customer Lifetime Value?
Customer Lifetime Value (CLV) is the metric that measures the expected total revenue or a long-term value generated from a single customer. In other words, the anticipated value each of your customers brings in the long-term context.
Why do we need to track it?
That’s simple. By tracking this KPI we can understand what type of customers we should invest in. Important to understand that this helps to not only understand which existing customers you should invest in, but also which type of users you should spend more resources to acquire.
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Many studies proved how important it is for a company’s growth to invest in retaining the existing customers.
Here are some of the many benefits of focusing on existing customers:
- A 5% increase in customer retention rate can lead to an 85% increase in profits
- The acquisition of a new customer can cost you five times more than retaining an existing one.
- 81% of customers make decisions about the purchase based on their trust in the brand.
- Loyal customers are a driver of one of the most effective marketing channels – World of Mouth (WOM).
To sum up, by understanding which type of customers can bring you the most value you can start allocating your marketing budget more efficiently by investing more time and money in the most valuable for your business segments.
By focusing on customers with higher lifetime values you are facilitating business growth and which is more important nurture its sustainability.
Customer Lifetime Value formula with examples
Okay, I understand, CLV is very important but how can I measure it?
CLV formula for stable annual revenue per customer
The easiest way to calculate your CLV is to deduct the customer acquisition cost from the revenue derived from this customer. In this context we are applying this CLV formula:
CLV = (Annual revenue per customer * Customer relationship in years) – Customer acquisition and serving cost
Important to understand that this CLV formula is applicable in case you have more or less stable and predictable annual revenue per customer.
Let us imagine that the company that applies a subscription-based model earns $5,000 each year per customer with the premium package. According to the company’s data this type of customer on average stays with the company for 5 years. Usually, the company spends around $3,000 on acquiring and serving each customer.
In this case the CLV = ($5,000 *5) – $3,000 = $22,000
CLV formula for unstable annual revenue per customer
In case your annual revenue per customer is not so consistent but more fluctuated, you need to use another more advanced CLV formula:
CLV = Average Gross margin per customer Lifespan * (Retention rate / (1+ Rate of discount – Retention rate))
By having a discount rate in the equation this formula allows you to get an insight into how the CLV can evolve over time.
The discount rate depends on the stability of the environment and indicates the present value of the future cash flow. In marketing, the common discount rate equals 10%.
The company’s average gross margin per customer lifespan equals $4,000. The majority of its clients stay with the company, and the retention rate equals 80%.
With the discount rate of 10% the company’s CLV = $4,000 * (0,8 / (1+0,1 – 0,8)) = $10,667.
Important to calculate CLV for each of your customer segments. This way you can understand which segment brings you the most value.
Five golden rules for increasing Customer Lifetime Value
How to expand your Customer Lifetime Value?
Here are the 5 golden rules for increasing your Customer Lifetime Value:
1. Introduce loyalty programs for your customers
Make sure you invest enough effort in building and nurturing your customer’s loyalty by providing special offers, discounts, and various kinds of benefits for your clients. Loyal customers are more likely to recommend your company to their friends and colleagues. Therefore, continue returning value to your clients.
2. Invest in your Customer Relationship Management
Build a strong relationship with your customers. Here is it important to mention that it is crucial to not only listen to your customers but also make sure they know you listen to them. This means actually taking actions after receiving feedback from your clients. Understand what pain points your customers have and think about how you can solve them with your solution. Ensure that your user can easily contact customer support at any time they have questions.
3. Monitor your customers’ satisfaction level
By tracking the satisfaction level of your customers you can get an idea of how happy your customers are with your product. You can do it using the Net Promoter Score or by simply asking your customers for feedback from time to time. Such kinds of small surveys will help you to understand what could be the flows and how you can improve your user experience.
4. Pay attention to the quality of your product
Although customer relationships play a significant role in any business, we shouldn’t forget about the importance of product quality. Product problems or its poor quality can significantly affect your CLV. Needless to say, how fast it can affect brand reputation. Therefore, ensuring a good quality of the product is a must for business sustainability and growth.
5. Upselling and Cross-selling
Upselling and cross-selling are one of the easiest ways to increase your CLV. Let us consider both tactics.
Upselling implies selling a more expensive version of the product to an existing customer. For example, it can be an upgrade from the basic to a premium version.
While Cross-selling means selling a related or a complementary product or service to your existing customers. For instance, selling the phone case and the screen protection together with the new phone. Therefore, many complementary products are usually shown at the checkout stage. For the same reason companies often add a minimum offer size for getting free shipping.
Both upselling and cross-selling are the effective drivers of the CLV expansion!
We hope that these tips were helpful for you and now you can easily measure how much money and effort you should spend on acquiring and retaining each of your target segments.
Nurturing your existing customers and increasing their CLV will ensure your company’s sustainable growth.