CUSTOMER LIFETIME VALUE (CLV) Part 1.

Do you know what CLV is?

Do you know the CLV for your company?

Do you know how to calculate the CLV?

Do you know how to use the CLV to improve your decision making?

If you answered NO to any of the above then take a few minutes to read this report, you will not regret it.

Let’s start with a definition

“The Customer Lifetime Value is the direct margin generated on the sale of products or services to the average customer over the length of time the average customer continues to purchase from the company plus any other benefits derived from the average customer: minus the average cost of acquiring a customer and the cost of programs to maintain and retain the average customer”.

So, if the average customer buys $1,000 a year and stays for 5 years and if the average Direct Margin is 40% and the average cost of acquiring a new customer is $200 and the average cost of on-going customer care programs is $100 a year then the CLV is $3,300.

$1,000 x 5 years = $5,000 x 40% = $2,000 - $200 and – ($100 x 5 years) = $3,300

Simple!

Actually it isn’t, but for now let’s assume that we can calculate the CLV (we’ll get into the methodology and maths later) and that it is $3,300 and that no other benefits accrue. Just for the record the “other benefits” refer in the main to the referrals made by customers.

OK, but why go to the trouble of calculating the CLV, what use is it?

The first, and ultimately the most important, reason to calculate the CLV is that it makes everyone in the company acutely aware of the true value of a customer. For example, the loss from messing up an order for a customer isn’t just the value of the order it could well result in losing the customer – and all of his or her future Lifetime Value. It is important therefore to make sure that all employees know of and understand the importance of the CLV.

The most obvious value of knowing the CLV is that it shows how much can be invested to acquire a new customer. Say you spent $1,000 on a direct mail program that generated sales of $500 from 5 new customers. An apparent failure since you received less in sales and margin than the program cost. However, the CLV of a new customer is $3,300 so the program was a huge success because it would generate $16,500 of Direct Margin over the next 5 years for a cost of just $1,000. Knowing the CLV makes it easier to create marketing strategies and develop more accurate budgets and it provides a reliable way to measure the success/failure of customer acquisition initiatives such as direct mail, click purchase and advertising.

The CLV is largely determined by customer retention rates and the amount of business conducted with the average customer and the Direct Margin generated on it. Also, as will be discussed later, the number of new customers referred by existing ones. A regular re-calculation of the CLV is a convenient way to measure the company’s progress. 

Part 2 of this report on Customer Lifetime Value will be posted on Thursday August 21.

Comments

[Frank Friend]

Hi Testing