Understanding the right business metrics can certainly help you understand how to plan your operations in order to grow. But as our interpretations of economies and markets evolve, it becomes necessary to keep up with more and more data. While many companies stress the importance of quantifying conversion rates, click-through rates, leads, and other important metrics, it’s easy to forget one of the most important, yet least discussed metrics: customer lifetime value (CLV).
Customer lifetime value is pretty much just what it sounds like. CLV is the present value of the future revenue attributed to each customer for the entirety of their relationship with your company. It sounds like a good thing to know, but how and why should CLV be measured?
Calculate your CLV accurately
Some rudimentary math is required to calculate a rough estimate of a customer’s lifetime value. Simply determine a customer’s average purchase value, multiply by that customer’s average number of orders per year, and lastly multiply by your customers’ average retention rate. Here’s an example to break it down:
Let’s say your customer makes 5 purchases per year at approximately 100 dollars per purchase, and your customers tend to maintain a business relationship of 7 years on average.
5 x 100 x 7 = $3,500 (CLV)
This formula calculates the average lifetime value of a customer based on known data. It’s important to note, however, that formulating an average customer retention rate using arithmetic means can prove detrimental to your expectations. Succinctly, grouping your most trusted, loyal customers with your one-and-dones before calculating an average total customer retention rate can lead to a severely underestimated figure for customer retention rate (and therefore, CLV). Unless your industry is somehow full of customers who are completely identical, your formulae should reflect the idea that some customers are more loyal than others.
Above all else, you should focus on keeping those loyal customers (which might be easier than you think!).
Why should CLV be measured?
Some marketers will measure the success of their campaigns by comparing conversion rates, website visits, or sales to predetermined benchmarks. These statistics, however, are suited to evaluate short-term gains. If you plan on sticking around for a long time, then you should focus on your long-term successes (and metrics). Finding the CLV of each of your prospects, for instance, can help you understand whether you’re acquiring the right kind of customers, and if you’re spending the right amount to acquire them.
Without analyzing value-based segmentation -- as you should when calculating your retention rates -- you never identify which channels collect the best customers. Generally speaking, it is far less expensive (and therefore more profitable) to hold on to an existing customer than to acquire a new one. Keeping a current customer happy requires very little investment (though, we’re not trying to undermine its importance) relative to the costs associated with new customer acquisition.
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