October 4, 2022
Professional marketers know how much a business depends on its customers. Working with their needs, interests, and preferences is much less expensive than engaging them again. That's why organizations pay a lot of attention to the customer lifecycle, striving to continue the engagement as long as possible. This requires proper interaction with lifetime value or LTV.
LTV in marketing is a metric that is often underestimated. And the success of the business directly depends on it. After all, attracting new clients is now super-expensive. Therefore, the main task of every company is to make the relationship with existing customers as long-term as possible. This is where the LTV indicator comes in. Learn about CLV meaning and definition, how to measure customer lifetime value, and how LTV analysis can help your business.
First, let’s figure out what LTV is. LTV (aka Customer Lifetime Value, CLV) is a metric that can be used to estimate the profit that a customer brings to you over the entire period of interaction: from the first to the last purchase.
Your company's revenue depends directly on this metric. To put it simply: the more loyal customers you have, the higher the revenue. But it is important to correlate this metric with others in order to see the real picture. So, if you have a high LTV, but the cost of attracting and retaining it exceeds a certain number, then there is no profit for you today. You need to reconsider your strategy.
The LTV is actually an indicator of how effective your marketing works. Because at the end of the day the main task of marketing is to build up as many loyal clients as possible and to keep them engaged as long as possible.
LTV is a valuable metric for marketing analytics. The cost of attracting new customers, order quantity, and conversion rates, are also matters of high importance for your future income. But lifetime value combines all the statistics for each individual customer. It's the expected profit you make. With the right calculations, you can easily expand your business based on this metric. And you won't lose any money because you'll know exactly how much you're making.
By performing CLV analysis, you can flexibly manage business relationships that lead to increased business profitability. In addition, you'll be able to make better decisions and spend less time and money on attracting customers with a lower value. LTV will also help you assess product quality, highlight strengths and weaknesses, and comprehensively work through them to increase customer retention.
If you know who brings you the most money, you can pay more attention to them. And you can also find common characteristics between these people and try to attract similar new customers. That way you can build separate strategies to work with each group and develop tailored offers for them.
Average customer acquisition costs are between $127 and $462, depending on your industry. If you calculate your LTV and see that the ratio is low, you can put more effort into retaining current customers instead of looking for new ones.
So, how do you calculate LTV? There are multiple ways to solve this task. The main difference between the formulas is accuracy. The more multipliers, the more accurate the result. Let's look at the two ways to determine LTV in this article.
First, let's break down the basic customer lifetime value formula. This LTV formula allows you to quickly and easily calculate the figure you are looking for. In order to do that, you first need to know Customer Value and Average Customer Lifespan. How do you do it? Well, we have some useful formulas for that, too.
First, let's start with Customer Value. In order to calculate it, you need to know your Average Purchase Value and Average Purchase Frequency Rate.
Then all you have to do is multiply one by the other and you get the Customer Value.
To find out the Average Customer Lifespan you need to average the number of years a customer continues purchasing from your business. The formula for this figure is as follows:
Another way to estimate customer lifespan is to divide 1 by your churn rate percentage. Once you have all four of the indicators you are looking for, just use the following formula:
Now let’s move to a more complex way of LTV calculation. The following method of calculating LTV is considered one of the most optimal. It is used in unit economics.
GML - the average profit of the client for the whole time of cooperation with the company. It can be calculated as the product of the profit coefficient (AGM) by the average check (AOV).
R - the retention rate. Calculated as the ratio of the difference between the total number of clients at the end of the period and the number of new clients for the period to the number of clients at the beginning of the period.
D - average discount provided by the company.
There are several formulas and models for the calculation, we will give two of them: a simple one and a detailed one. The first is suitable for analyzing past results, the second helps to predict LTV in business.
So now let's move to a specific customer lifetime value example and try to calculate the result. Let's say you had 70 customers who made a total of 120 purchases for a total of $150,000. In this way we can reveal that yours:
Next, let's calculate the Average Customer Lifespan. Let's say your customer is actively buying from your company for an average of 2 years.
Given two values, we can determine that:
Consider more indicators, and therefore LTV will be more exact.
Why don’t we calculate the LTV of a business for the quarter with an example? Let's start with the average profit and assume the company's profit margin (AGM) is 40%, which is 0.4, and the average check (AOV) is $6,000. Then:
GML = 0.4×6,000 = $2,400
Now we will calculate the retention rate. At the beginning of the quarter the business had 40 clients, and at the end ‒ 75. 5 customers left, but 35 new ones appeared. So:
R = (75 - 35) / 40 = 1
On the repeated order the client receives a discount of 5% (i.e. 0.05). Consider this in the final calculation:
LTV = $2,400 x (1 / (1 + 0.05 - 1)) = $48,000
It turns out that over the quarter the business receives an average of $48,000 per customer. While planning the marketing and other costs, you need to keep in mind this figure.
Calculating the formulas gives you average values. That is why if you calculate LTV for too big and diverse of an audience you might receive incorrect data. So it is better to determine LTV not for the whole client base, but for different client segments separately.
The main metric to compare with LTV is CAC (customer acquisition cost): how much a company spends to acquire new clients. To calculate CAC, divide the total marketing spend for the period by the number of new customers.
The preferred ratio of LTV to CAC is 4:1. If LTV and CAC are approximately equal—this means that the business is not making a profit. That is, the strategy must be urgently adjusted: increase LTV and decrease CAC.
A good LTV is not only a high average check, but also a high retention rate. It costs on average five times less to retain an existing client than to attract a new one. Therefore, it is important to think not only about the first sale, but also about what happens to the client afterward.
The main thing for a good retention rate is for the client to be satisfied with the product or service, the communication during, and the interaction after the purchase. And how else can you work with them and with LTV?
Use different customer interaction channels in conjunction. Remarketing campaigns, email campaigns, chatbots, SMS, and messenger notifications. The more touches—the better you are remembered and easier to get back.
Use the sale of a more expensive version of the product and presales. Expand your product line to increase your target audience and have more options for presales. Use other marketing activities to ensure that customers will return and bring you profit.
Collect data on your customers and segment your audience. Personalized campaigns, promotions, and sales help retain customers.
Develop a clear and profitable loyalty program that will motivate customers to come back to you. Use referral programs to make customers bring friends to you and receive bonuses.
Collect and process feedback. This way, you'll understand what can be improved in the product or service. In addition, honest and detailed feedback is a plus for potential customers to trust you.
LTV in monetary terms will allow you to optimize your budget based on the potential profit that each client can bring in at the current moment. By doing so, you will be able to invest in engagement more effectively. However, proper LTV management as well as other marketing activities such as RFM segmentation can be accomplished much easier with a feature-rich platform designed specifically for this purpose. That's exactly what Reteno offers.
Reteno is a no-code platform that allows marketers to take full control of customer-centric communication and avoid routine. Our preset & customizable campaigns are the shortest way to convert more app users into paying customers, retain customers and increase repeat sales as well as increase customer lifetime value. Contact us now and our experts will explain to you all the details of the platform.
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