What is Customer Lifetime Value and How it Can Help in Business Growth

Retaining an existing customer is 87% easier than acquiring a new one. For that, companies need to ensure that their current customers are satisfied with the products and services they receive. But here is the catch! How would they know that customers are happy? Is there a metric to measure customer satisfaction? The answer is yes. Customer lifetime value is the solution. So, let’s learn in-depth about what is customer lifetime value, and why it’s paramount in business growth.

What is Customer Lifetime Value (CLV or CLTV)?

This is a metric that shows the total revenue earned by a company from a single customer account throughout their business relationship. 

Customer Lifetime Value Example

To demonstrate a concrete example, let’s consider a hypothetical company ABC, which is a boutique garment retailer. 

The average sale of ABC is $50, and the average customers shop from them five times per year for three years. Also, after calculating the cost of goods sold, overheads, marketing, and other operational expenses, ABC found that their profit margin is 20%. Then,

Customer lifetime value = $50*5*3*20% = $150

Retailers can use this information to project cash flow and understand how many customers they need to acquire and retail to achieve the target profitability. 

Importance of Customer Lifetime Value

This is an essential metric for every business. It allows companies to assess and augment the value of every customer relationship. Here are some of the primary reasons why customer lifetime value is crucial: 

• Quantifies customer loyalty 
• Boost business profitability 
• Determines customer segmentation 
• Determines efficiency of marketing strategies 

Benefits of Customer Lifetime Value

When companies focus on customer lifetime value, they can prepare a base of loyal customers for steady returns daily. They can secure their business’s market presence for decades. Besides this, cultivating customer lifetime brings the following benefits: 

1. Reduces Costs: 82% of organizations claim that convincing new customers is more expensive than retaining existing customers. It costs dollars in the advertisement, requires more salespeople, and collaboration between several departments. Hence, selling products to existing customers means that a company can avoid these expenses and reduce operational costs.  
2. Saves Time: Knowing a new customer in and out is a time-consuming process. However, if companies already have an existing customer base, then they can quickly estimate their lifetime value, retain customers, and maximize profit.  
3. Predicts Churn Rate: Churn rate is the percentage of customers leaving a brand due to poor customer service or experience. Customers with high lifetime value are less likely to churn.

Advantages and Disadvantages of Customer Lifetime Value

Advantages:

• CLV can be calculated quickly and easily
• It’s an effective metric that is reliable for short-term customer loyalty situations 
• It can help companies to compare the value of different customer segments  

Disadvantages:

• It does not estimate customer revenue and costs 
• It indicates that the retention rate is stable and doesn’t change over time, which can be an inaccurate prediction for businesses
• While calculating this metric, discount rates and special offers are usually overlooked, which maximizes the value and again leads to inaccurate information

Is Customer Lifetime Value the Most Important KPI?

It is an essential KPI that a business should monitor regularly. The outcome evaluates the value each new customer provides.

For instance, CLV is the ideal KPI while studying client retention rate. Moreover, CLV can be used to choose customer loyalty programs. Based on the value of each customer, the company can offer discounts or incentives in the future. 

ALSO READ: What is Customer Centricity? How Can it Benefit Your Business?

How to Calculate CLV?

To calculate customer lifetime value, use the below-mentioned formula. 

CLV = (Customer Value * Average Customer Lifespan) 

Where, Customer Value = Average Purchase Value * Average Number of Purchases 

Customer Lifetime Value Model

If you are wondering what is customer lifetime value model, then here it is: the customer’s value to a brand over a particular time. The estimation of CLV is based on multiple touchpoints, such as customers’ transaction history, profile data, monetary value, and frequency of transactions. Using this information, a company can evaluate the business profit and need for new customer acquisition or retention.  

This model supports three variables:  

• Constant margin per period 
• Constant retention probability per period 
• Discount rate 

How to Increase Customer Lifetime Value

Concentrating on customer satisfaction and retention is the best way to boost CLV. However, some proven strategies for increase in this metric are: 

• Companies should implement referral programs with attractive benefits that compel customers to stay with the brand
• Companies should implement an omnichannel marketing strategy to engage customers on every touchpoint, such as mobile, tablets, laptops, websites, and social media channels 
• According to the Salesforce report, 78% of customers are loyal to a brand because of outstanding customer satisfaction. Hence, prioritizing customer satisfaction plays a pivotal role in retaining existing customers and augmenting CLV 
• As 54% of customers expect brands to deliver personalized experiences, hence leveraging personalized campaigns can be one way to increase this metric

Why is Customer Lifetime Value Important to Businesses?

This metric enables companies to make smarter choices about their marketing approach. It also helps organizations make more precise financial forecasts. It simplifies the management of customer acquisition marketing expenditures by estimating the profit that a customer brings throughout their relationship with a brand. Moreover, it determines whether you should take action to strengthen consumer interactions with your company. 

By closely examining metrics like average order value and average purchase frequency and comparing them to prior data, it is feasible to make adjustments to a business’s strategy that will increase client lifetime value. 

Though this guide covers important aspects of this concept, there is a lot more to learn about this. If you are keen to know more about the term, choose from the specially curated online sales and marketing courses on Emeritus to enhance your knowledge and skills.

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