Customers are critical to the success and survival of every business establishment. They are the reason for a business’s existence, as a company without customers would struggle to increase its revenue and drive business growth.
Judging by their significance, how can businesses get customers that would add value to their organization? How do they plan to manage and retain these customers? And what strategies must be in place to help them achieve this?
Measuring your customer lifetime value (CLV) can provide you with answers to the above questions.
Customer lifetime value is a business metric that measures the total amount of money or revenue a customer can bring to a business over a specific period.
For example, a SaaS company with customers who make a one-time purchase of $800 and subscribed customers who pay $300 annually for ten (10) years might want to find out how they can increase revenue growth. By calculating the customer lifetime value of these customers, they would discover that the subscribed customer would help them generate more revenue than the one-time customer.
Although it can be a bit challenging for businesses to control which customer leaves or stays, CLV can help them develop data-driven strategies on ways they can retain valuable existing customers and gain new ones.
To this effect, we will be discussing all you should know about a customer’s lifetime value, its importance to your business, and how to measure it in the subsequent paragraphs.
Table of Content
- What is a customer lifetime value (CLV)?
- Why does measuring customer lifetime value (CLV) matter to your business?
- How to measure customer lifetime value (CLV)?
- What are approaches to customer lifetime value (CLV) calculations?
- How to apply customer lifetime value?
- Ways to Improve your customer lifetime value
- Common CLV Mistakes
- FAQs
What is a customer lifetime value?
Customer lifetime value (CLV) is the amount of money a customer is estimated to generate during their business relationship with a company.
It is an important metric that shows you how you can increase your profit margin and revenue by measuring the predicted amount of money your existing customers will spend on your products and services over a period.
With the use of quality data, CLV can help businesses understand their customers better – their purchasing power, estimated income, and other valuable information about them to drive business growth and focus on the right customers.
A well-calculated customer lifetime value will help businesses measure customer loyalty and satisfaction. It must also present customer acquisition costs (CAC), current sales and marketing expenses, operating expenses, and, importantly, the cost of developing its product or services to guide its subsequent business decisions.
In a nutshell, businesses need to measure their CLV to develop effective strategies that will help them gain new customers and retain their existing customers while maintaining profit margins.
Why does measuring customer lifetime value (CLV) matter to your business?
A customer lifetime value is one of the business documents that will help business leaders and marketers understand their customers and develop strategies to maximize their revenue while sustaining a relationship with them.
It serves as a guide to vital business decisions, and aside from the above-explained significance, here are the reasons why measuring CLV matters to your business;
1. Improve marketing efforts
A business can only improve what they measure. By measuring customer lifetime value, marketing and sales teams can monitor their activities to determine what’s working and isn’t. CLV can also these teams develop data-driven strategies around their product prices, sales techniques, marketing campaigns, and how to get new customers and retain existing ones while reducing costs and increasing profits.
2. Make better decisions
Since measuring CLV can show an estimate of the total revenue you can generate from an average customer, businesses can decide better on what they need to increase or reduce to help them maximize profit and gain new revenue-generating customers.
3. Better business forecasting
The insights from CLV can help you foresee business opportunities and risks that you can take or ignore to drive business growth. Also, with the data generated on your inventory, staffing, operation cost, and other costs, you can easily detect if your business is overspending or wasting resources and manage this accordingly.
4. Increase customer retention and experience
Customer lifetime value is one of the key metrics that can help you investigate what’s going on with your customer – their challenges and experience with your product or service to understand how you can improve their customer experience and retain them.
Since losing customers can be inevitable, businesses can use CLV to develop an effective customer retention strategy to satisfy and generate the best revenue from every valuable customer.
5. Increase repeat sales
The overarching goal of measuring customer lifetime value (CLV) is to determine high-value customers and increase their repeat buying. Measuring CLV can help a business identify loyal customers that will most likely contribute to the company’s revenue growth. Once they identify the customers, they can develop marketing content to target them.
6. Drive profitability
CLV can help businesses focus on the right customers, reduces expenses and other business costs, and sustain good business relationship with these customers to increase revenue and profit margin. Essentially, a higher CLV equals higher business profit.
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How to measure customer lifetime value (CLV)?
Calculating your customer lifetime value can be slightly challenging if you are not very good with maths. To avoid this, consider using enterprise resource planning (ERP) systems to handle all the customer value estimations for you. However, if you intend to calculate your customer lifetime value manually, here are easy steps for you to follow;
Step 1: Determine the average purchase value
The first step to calculating customer lifetime value (CLV) is to calculate the value of your average sale. You have to calculate the value of every product or service sold in a specific period, usually a year. But if you are new and have no data on your average purchase value, consider focusing on a one to three-month period.
You can calculate your average purchase value by dividing total revenue by the number of purchases.
Average purchase value formula = Total revenue / number of purchases.
Step 2: Calculate the average number customer per period (Average Purchase Frequecy rate)
This second step involves calculating the frequency of their purchase, which is one of the drivers of CLV. Consider the number of times a customer buys from you and the consistency of purchase – every three days of the week or once in three months.
You can calculate purchase frequency by dividing the number of purchases by the number of unique customers who made the purchases.
Average purchase frequency rate formula = number of purchases / number of unique customers who made the purchases.
Step 3: Measure your Customer Retention rates
Customer retention looks at customer loyalty – how long does an average customer stick to your brand? It is believed that most technology and car brands have more loyal customers compared to retail brands.
Step 4: Calculate average customer value
This involves calculating the average purchase value multiplied by the average purchase frequency rate.
Average Customer value formula = Average purchase value x Average purchase frequency rate.
Step 5: Calculate average customer lifespan
This involves calculating the sum of customer lifespans divided by the number of the customer.
Average customer lifespan formula = sum of customer lifespan x number of customers.
Step 6: Customer Lifetime value
You calculate customer lifetime value by multiplying customer value by the average customer lifespan. It gives you an estimate of how much revenue your average customer will generate during their time of business relationship with your company.
Customer lifetime value formula = customer value x average customer lifespan
What are approaches to customer lifetime value (CLV) calculations?
There are three main approaches to calculating customer lifetime value. They are;
1. Historical Customer Lifetime Value (CLV)
Historical CLV is the sum of the gross profit from a customer’s previous purchases. Use the historical model when you notice that some of your customers share the same product preference and interact with your brand in the same way over a period.
However, you must understand that using the historical CLV method can be tricky because it combines all your customers – old and new during its calculations. Considering that some of the customer’s behavior and other attributes might differ, this can alter the accuracy of your CLV.
To calculate customer lifetime value using the historical approach, add all the gross profit values of a customer’s business transactions. Also, to determine the profits an existing customer could bring, measure the CLV based on net profit and ensure you include service costs, product return, marketing, etc in the calculations.
2. Predictive customer lifetime value (CLV)
You can use predictive CLV by multiplying average monthly transactions by average order value, average customer lifespan, and average gross margin. It aims to look into the transactional behaviors of your customers to forecast their future actions.
Predictive CLV is a better indicator of customer lifetime value than the historical value. It uses algorithms to generate an accurate customer lifetime value (CLV) and predicts a customer’s total value. The predictive model uses your customer’s previous transaction history to measure their actions.
3. Traditional customer lifetime value (CLV)
Traditional CLV measures the possible changes in customer revenue throughout a given period. This model calculates customer lifetime value by measuring the discount rate, average gross margin per customer lifespan, and retention rate to identify changes in sales and revenue generated from an average customer.
How to apply customer lifetime value (CLV)?
After you have calculated your customer lifetime value, you can now proceed to use it to achieve the following;
You can use your customer lifetime value report to segment your customers and create customer profiles. Creating customer segments and understanding what appeals to each segment will help you create targeted marketing content that fit their profile and financial capabilities.
It will also help you improve your forecasting and lead conversion rate of new customers.
2. Increase Acquisition
When you find out the value of your customers and the factors affecting their purchasing decisions, you can target and acquire high-value customers who will generate the biggest lifetime value in the future.
3. Manage Retention rate
Good knowledge of your customers, their goals, income, and buying behavior can help marketing teams develop strategies that will help them improve customer satisfaction to retain them.
A well-detailed customer lifetime value can also help build customer relationships and generate high customer lifetime value from your best customers.
4. Recognize your best customers
Customer lifetime value calculations will help you identify high-income generating customers that you can channel your marketing, sales, and customer retention effort to, nurture, and help you get the best revenue from the customers.
Ways to Improve your customer lifetime value (CLV)
Considering how important customer lifetime value is to drive sales and business growth, you must understand techniques you can use to improve your customer lifetime value to get the best out of it.
Below are seven (7) proven tactics to help you increase your CLV and generate more revenue from your existing customers.
1. Improve the customer onboarding process
Customer onboarding is the first stage of the customer journey as soon as they begin using a product or service. Successful onboarding is essential to driving sustainable business growth. Onboarding allows you to build strategic plans to satisfy their needs and encourage them to always come back for more and become loyal to your brand.
First experiences matter a lot in this. You can improve your onboarding by creating explanatory guides, engaging how-to videos, wrapped tutorials, and other content that might fulfill the customer’s goals.
2. Develop value-packed and engaging content for customers
Consider creating valuable and engaging content for your customers. As you may already know that quality content is key to increasing sales and growing a business. Your content can influence customers to buy from you or to become your brand advocates.
Look into creating quality marketing content that is educational, promotional, engaging, customer-focused, and updated to motivate your existing customers and gain new ones.
3. Offer high-quality customer service
High-quality customer service is essential to helping your business retain customers and increase revenue. Regardless of how powerful and functional your product or service is, poor or below-average customer service can compel your customers to stop buying from you to go to your competitors.
A good customer improves customers’ experience. Essentially when your customers are happy and satisfied with your service, they will be more likely to repeat business with you and become your long-term customers.
Consider offering customer support from various channels, providing 24/7 support, monitoring social media discussions, offering live chat support, and regularly sending them valuable content to increase their knowledge. Check out the related guide, gross sales vs net sales.
4. Build customer relationships
Maintaining a cordial relationship with your customers is crucial to your business growth and success. What plans do you have in place to celebrate them on their special occasions? How frequently do you reach out to them? And how do you treat your customers?
The above questions will help you build mutually beneficial relationships with your customers. Consider nurturing a healthy bond with your customers by listening to them when they make complaints, appreciating them when you can, and trying to give back to them.
Avoid having one-way relationships with your customers and try to give back to them as much as you can. Find the guide to making a sales analysis report.
5. Get their Feedbacks and honest reviews
Remember that your customers are the users of your product or service. So, ensure that you hear from them by requesting feedback on newly launched products, your service, or their honest reviews on your tech products at regular intervals.
Feedback is crucial to track your performance and identify ways to improve a product or service or get a business idea on what your customers think you should develop to help their needs.
Whichever feedback channel you decide – by sending them a survey form or dedicating a team to monitor their sentiment online (on social media, communication channels, review websites, forums, etc.), ensure you know your customers’ worries and demands and solve them accordingly.
6. Identify common pain points and create solutions for them
Customers’ pain points are problems or needs that current and potential customers are experiencing. Identifying pain points is one of the most ways of improving your customer’s lifetime value.
When you understand your customers’ pain points – challenges and complaints, you can determine where your product or service can come in to solve the problems. To improve customer satisfaction and retain them, consider improving your current products or services or developing new solutions to solve your customers’ challenges.
7. Promote customer loyalty programs
A customer loyalty program is a marketing approach that companies use to record and reward their loyal customers and encourage repeat buying. You can increase customer retention and get high-value customers through customer loyalty programs.
Your customer loyalty program can include offering discounts or rewards on products and creating and sharing loyalty cards, loyalty apps, or points to encourage customers to become loyal customers.
An example of these customer loyalty programs is the customer loyalty benefits or privileges that some airlines give their long-time customers to motivate them to keep using their airlines. Another loyalty technique is the refer-a-friend strategy which gives points to existing customers and encourages them to advocate the brand.
Common Customer lifetime value Mistakes
A poorly calculated customer lifetime value can cost you so much money and risk losing valuable customers. To save you from these hazards, we bring you some of the common CLV mistakes that most marketers make;
- Misalignment with the company’s goals and plans.
- Wrong customer segmentation.
- Choosing an unrealistic number for your customers’ lifetime
- Failure to factor in time flexibility
In a nutshell
A customer lifetime value (CLV) measures the total revenue that a business expects to generate from an average customer during their time as a customer. CLV is necessary to help businesses understand which customer will bring in the most revenue and how they can retain and satisfy their customer’s needs to bring in the estimated income.
Understanding customers’ pain points, their experiences, and getting their feedback is key to improving your customer’s lifetime value. Find what is gross revenue in businesses.
Customer lifetime value FAQs
1. What does customer lifetime value mean?
A customer lifetime value (CLV) is a business metric that measures the total amount of money or revenue a customer can bring to a business over a specific period.
2. How do you calculate the lifetime value of a customer?
You calculate customer lifetime value by multiplying customer value by the average customer lifespan.
3. Why is it important to calculate your customer’s lifetime value?
A customer lifetime value (CLV) helps business leaders and marketers understand their customers and develop strategies to maximize their revenue while sustaining a relationship with them. Check out the finest guides, B2B sales, SaaS sales and tech sales.