Understanding Customer Lifetime Value
What is CLV?
How can I measure it? How important is it? These are questions that senior management and marketers often ask themselves when it comes to customer metrics.
Customer Lifetime Value (CLV) is an estimate of the total value that your company derives from each customer. It does so by comparing lifetime value with what you spent to acquire that new customer.
There are various formulas out there to help ascertain Customer Lifetime Value. The ratio of Customer Lifetime Value to Customer Acquisition Cost (CAC) is one simpler way to get it. For you to calculate the ratio it is important to first establish the CAC.
What is Customer Acquisition Cost (CAC)?
CAC is a metric that determines the average cost your company spends to acquire a new customer.
It accounts for costs associated with convincing a customer to buy a product. This includes product costs(adverts, salaries, overheads etc.) as well as the costs of research, promotions and accessibility. CAC can be calculated on a monthly, quarterly or yearly basis.
You want a low average CAC as a business. Any increase in it means you spending more for each customer. This can imply with your marketing efficiency.
How to calculate CAC?
Total your sales and marketing costs for a specific time period then divide by the number of new customers for that period.
Calculating the Ratio of CLV to CAC (LTV:CAC)
Since you have established your CAC now you need to find your LTV.
Steps
Total the revenue which the customer pays in a given period
Subtract the gross margin of that period from it
Then divide the value you get with the estimated churn percentage of that customer Churn Percentage; the rate at which customers stop business with you.
Implications of the ratio
The higher the LTV:CAC, the more ROI your sales and marketing team is delivering to your bottom line.
However, you don’t want your ratio to be too high, as you should always be investing in reaching new customers. Our Customer Acquisition Funnel guides you on how to measure customer acquisition success.
Importance of Understanding CTV
Highlights that it costs less to keep existing customers than to acquire new ones.
A high CLV ratio boosts brand loyalty over the long term
Helps the company to better understand customers which in turn contributes to brand identity
Enables your company to see how much revenue to derive from specific customers
Allows for value maximization in existing customer bases of geo-locations
Guides the business on decisions about sales and marketing, product development and customer support
Contact me if you have any questions or suggestions
Jeff Nelson
jeff@anduro.com
403-703-2247
Blog post written by Pholoso Blessing Mosweu