Customer Lifetime Value (CLV) : A Fundamental Guide

Customer Lifetime Value (CLV) reveals how well a business resonates with its target consumers. It sheds light on how consumers like any particular service or product. It emphasises on what a business is doing right and how you can improve.

When the customer lifetime value of business amplifies, it indicates that they are creating a better impression on the existing consumers. Now, as a student, the process of determining CLV may seem a little too overwhelming for you. In order to simplify it a little further, here is a detailed insight into the concept of Customer Lifetime Value.

What is Customer Lifetime Value?

CLV (Customer Lifetime Value) denotes the worth of a consumer for a business over the entire period of their association. It is a significant parameter for businesses to consider as it costs less to retain the existing consumers than it does to attract the new ones. So, increasing the value of the existing consumers is an excellent way to drive profit and growth.

For instance, let us assume the CLV of an average restaurant/cafe consumer is $1,000. If it costs higher than $1,000 to attract a new consumer (marketing, advertising, offers, etc.). So, the restaurant could be losing money unless it cuts back its expenses on the acquisition.

It is a significant metric and is utilised for making crucial decisions about product development, marketing, sales, and customer support. Now, it may be hard to determine how long each association will last. But, marketing managers can make a proper estimate and state CLV as a periodic value. 

The Importance of Customer Lifetime Value

Working toward better CLV involves sensible planning in a proper direction. Each repeated purchase from an existing consumer takes you one step closer to the promised land.

On that note, here the pertinent reasons why CLV is pivotal for your business.

1. It helps nurture relationships with the clients

Weaker client relationships indicate limited repeat sales. If your business doesn’t entertain a loyal base of consumers, you will be doomed with a poor CLV.

Boosting consumer retention essentially depends on gathering deeper insights into your consumers. If you gain clarity about purchasing habits, you will automatically witness a spike in overall CLV. Customer engagement is mandatory for any business.

2. You can determine the most valuable consumers for your business

The repeat purchases act as a catalyst for knowing your consumers. Monitoring your CRM allows you to learn about the consumers who spend a lot. Also, a little research will highlight what consumers spend the most on. This allows you to promote some products or services more than others.

When you develop your consumer retention strategies for these consumers, you will automatically attract similar kinds of consumers to your brand. You will also be able to provide the valuable consumers with personalised customer support and exclusive promotions too.

3. It ensures long-term prosperity

When it comes to maintaining CLV, you don't need to monitor it every single day. However, ignoring it will spell the doom for your business faster than you think. It consolidates the growth of your business and helps manage the financial health of your organisation. It’s a driving factor for your success and significant revenue.

4. It helps you decide on a budget

Understanding how much you have to gain from a consumer allows you to know how much you should invest. Be it for retention or acquisition, CLV highlights the amount you can afford for various consumer campaigns. Elevating CLV presents new investment opportunities for your organisation. It becomes easier for you to grow and expand if you are aware of your budget limits.

5. It's a measure of product quality

Low CLV indicates two distinct possibilities. Either your consumers are unfamiliar with the benefits of your products, or your products don’t work the way you thought it would. Both these instances lead to unhappy consumers, which further translates into a limited number of sales.

6. You can reinvest and expand your organisation

It is common for small businesses to struggle with the issue of insufficient funds to develop and expand their business. However, if you consistently focus on increasing CLV, you will soon reach the point where your business will no longer suffer due to lack of funds. After all, businesses are all about growing, reinvesting, expanding and presenting quality services and products to your loyal customers.

7. You'll witness positive margins

If you believe that loyalty arises from massive discounts, then you’re wrong. If you depend on discounts to close sales, you will inevitably end up losing consumers when you end a promotional sale. If you take measures to maintain your brand image, you can expect your consumers to stick.

Loyal customers are impressed by quality products, brand values and story, not discounts. This benefits you, as you won't need to search for their attention with forced offers, and you will earn the full price of every product.

How to Calculate Customer Lifetime Value

Determining CLV enables businesses to understand the monetary value a customer brings to a business during the span of the relationship with the company. Maintaining proper records is vital to being able to correctly measure a customer's value. The following suggestions will be useful in case of measuring the CLV and retaining the existing consumers.

• Determine the number of times most consumers make purchases within a specific span of time. For instance, a retail business that sells household goods may decide to use the time span of a year. However, a business that comes with a more specific market may benefit from adopting a longer timeframe. The timeframe should be sufficient enough for a typical consumer to make more than one purchase.
• Decide upon an average transaction amount for follow-up transactions by maintaining a list of consumer transactions. This average transaction amount helps put your consumer's potential for purchasing into perspective.
• Find the total sum of money the customer has invested to avail your services. Add all the purchases of a specific consumer during the lifetime of your business’s association with him/her.
• Identify the profit on a consumer's lifetime purchases depending on your typical profit margin. If your profit margin happens to be 25% and a consumer's lifetime purchases add up to $500, the profit your business garners from the consumer’s purchases is $125.
• Subtract the consumer acquisition cost from the profit of a consumer's lifetime purchases to identify the customer lifetime value.
• Make sure you use your best assumptions for the requested data if the documented details are unavailable. Not every record-keeping system will provide in-depth data. However, you can consider adopting a record-keeping system that will monitor the bulk of data. This way, the process of determining CLV and other marketing calculations would be easier for your business.

The Formula to Determine CLV

While there are different equations to measure the Customer Lifetime Value, you can get an initial understanding by simply subtracting your acquisition costs. For an elaborate analysis of CLV, you can apply the following equation:

Average Value of Service/ Product bought x Average Number of Transactions every Month x Average Length of Retention (in Months) as a Brand consumer = Customer Lifetime Value

This equation assigns a numerical value to a consumer and determines the consumer’s frequency of purchases and the kinds of products/services that are being bought. The length of retention is implemented to identify external elements that influenced why a consumer stopped or continued purchasing products from the retailer.

Practical Examples of Customer Lifetime Value

Presented below are some renowned brands that have effectively managed to determine the Customer Lifetime Value. Some of these examples are as follows.

• Amazon

 Amazon spares close attention to CLV. For instance, Amazon Prime has been presented so that the brand can efficiently compete on price to amplify customer lifetime value. By applying Customer Lifetime Value (CLV) to the development of Amazon Prime, Amazon has managed to get the best results of their most profitable consumer segments.

• Netflix

An average Netflix subscriber is known to stay on board for 25 months. As per the information provided by Netflix, the lifetime value of a Netflix customer is $291.25. Netflix understands that consumers tend to be impatient, and some of them cancel because they don’t like waiting for movies. This is why Netflix comes with a feature where you can stream movies on the web. This not only satisfies your requirements but also keeps you occupied while you are waiting.

• Starbucks

One of the most pertinent ways to amplify CLV is to increase customer satisfaction. Starbucks’ customer satisfaction is reportedly as high as 89%. Owing to higher rates of customer satisfaction, Starbucks’ Customer Lifetime Value has been on the higher side.

• Crocs

The organisation has always had a data-centric, consumer-oriented approach to marketing. The marketing team of the company is entrusted with the responsibility to transform Crocs’ online business by becoming less dependent on discounts and promotions. The team evaluates to optimise promotions aimed at consumers and extends programs to coordinate a "no discount" experience across the site, email and display for consumers with the lowest price sensitivity. This way, Crocs manages a 10X and 2X lift in its revenue.

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