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Customer Lifetime Value (LTV) is the amount of total income that the buyer brings during the period of cooperation with the company.

Its correct calculation will help determine how much money your customers spend, how often they spend it, as well as what programs and bonuses they are interested in and can make regular customers.

Why is LTV so important? In Internet business, the term Return On Investment (ROI) is often used. ROI is the percentage of profit received in relation to the investment made. Incorporating customer lifetime value into your ROI calculation will help you see the full picture of your business's profitability and how it can be managed. We will definitely tell you more about ROI, but for now let's get back to the customer's lifetime value.

How to calculate customer lifetime value?

There are several ways we can use to count LTV. Let's start with the basic formula:

Average order value X Number of sales X Loyalty period

For example, take the Birchbox hot subscription service, a monthly subscription for which costs $10 for women and $12 for men.

$10 X 12 months X 3 years = $360

Using Birchbox as an example, a female subscriber brings in $120 a year for the company. If a customer stays with them for 3 years, then the lifetime value will be $360.

FormulaLTV no recurring subscriptions

So our calculations so far have been simple. Consider an example where we need to calculate the LTV of buyers who do not make the same payment every month.

Take, for example, an online store selling home medicines. Let's choose three separate buyers to calculate the average sales:

• Client A takes care of her diabetic grandmother. Every month he buys syringes and test strips, sometimes a blood glucose meter. His monthly purchases are $60.
• Customer B buys diabetes tests every month and her average order is $25.
• Client C buys medicines for several members of his family. Every month she buys test strips, syringes, insulin pumps, special containers and socks for diabetics. Her monthly expenses purchases average $150.

Let's calculate the monthly sales for these three buyers:

We add up the monthly check of each customer and divide the resulting amount of $ 235 by their number. Average monthly revenue is $78

$78 x 12 months x 5 years = $4680

According to this formula, the customer lifetime value is $4680 for the entire period, or $936 for the year.

Why you need to knowLTV

Realizing the importance of the information received for your business, devoting a few hours to all the calculations, you will be able to determine which customers are the most valuable to you, how to distinguish them, what affects the loyalty of your customers and what methods you can use to increase LTV.

LTV (Lifetime Value) is the total profit of the company received from one client for the entire period of cooperation. A simplified version of the Russian definition that characterizes this indicator is the lifetime value of a client. This metric is also called CLV (Customer Lifetime Value) or CLTV.

Why it is important to know LTV

Knowing how much money you receive on average from one client for the entire time that he remains a client, you can easily understand how much money you are willing to spend on attracting one client and on marketing in general. In general, for the sake of this, LTV is considered.

Knowing LTV will allow you to:

• determine ROI in terms of the client;
• choose the most effective acquisition channels if you know how much it costs to attract one client from each channel;
• improve strategy;
• refine the behavioral triggers that motivated your subscriber to make their first purchase.

Why consider a client's LTV as a subscriber

If LTV is usually calculated relative to the time during which the client remains a client, then in email marketing only the time that he is a subscriber is taken into account. For example, a client came from a mailing list and bought a subscription to watch TV shows online. After six months, he canceled the mailing list, but remained a client and watched series for 2 years.

Then his LTV as a client will be calculated for 24 months, and as a subscriber - for six. The benefit of calculating the LTV of a subscriber is to understand how justified the costs of email marketing are and to optimize them (see cheat sheet):

Formula for calculating LTV

Divide your email marketing revenue by the number of customers that came from your email channel in the last year. Multiply the resulting figure by the average time that the subscriber is in the mailing list.

Example

Revenue for the year from the email channel: 3,000,000 rubles.
Cost per year for email marketing: 1,200,000 rubles.
Received clients: 1000
Average period of activity: 10 months.

We subtract costs from revenue: 3,000,000 - 1,200,000 \u003d 1,800,000 rubles.

1 800 000 / 1000 = 1 800 rubles per month brings one client received from email marketing
1,800 * 10 months = 18,000 rubles brings 1 active subscriber in 10 months.

How to increase a subscriber's LTV

The more money one subscriber makes, the better for the company. When calculating LTV, pay attention to all the numbers you use in the formula. It is important not only to keep subscribers in the database as long as possible, but also to reduce the cost of email marketing. For example, if you have a messed up mailing system, and you use only the simplest functions, it might be worth switching to a simpler mailer; if your database has a lot of inactive subscribers, you need to reactivate them and clean up the database.

It turns out that subscriber LTV is an indicator of the health of your email marketing. It reflects both cost-benefit, subscriber engagement with the company, and email marketing benefits per user.

customer lifetime value(customer lifetime value, CLV or often CLTV), lifetime value(life-time value, LTV) is a prediction of net income associated with all future relationships with a client. The prediction model may have different levels sophistication and accuracy, ranging from approximate, heuristic, to complex, using predictive analysis techniques.

Customer lifetime value can also be described as the monetary value of a relationship with a customer based on the current size of the visible future. cash flows from the relationship with the client. Customer lifetime value is an important concept in that it encourages companies to shift their focus from quarterly earnings to long-term healthy relationships with their customers. Customer lifetime value is an important number as it represents the upper limit of the cost of acquiring new customers.

One of the first mentions of this term was made in 1988, in the book Database Marketing, which contains detailed working examples.

Target

The purpose of the Customer Lifetime Value (LCV) measure is to gain access to the financial value of each customer. Don Peppers and Martha Rogers are credited with the following quote: "Some clients are more equal than others." The value of customer lifetime value (the difference between income and expenses for a relationship with a customer during certain period) lies in the fact that the PCC looks into the future. In fact, the PCC is useful in the formation management decisions, but it is very difficult to determine. The calculation of the PCR implies the prediction of future activity.

Many companies analyze customer lifetime value (CLV) to determine the financial benefit (value) from a relationship with a particular customer. Let us consider the features of the analysis of this indicator, using an interactive form for calculation.

Figuring out which clients to invest time and money in is critical if you want to maximize your profits.

Many companies analyze a metric called customer lifetime value (CLV) to determine the value of a particular customer compared to other customers.

Even if you don't have to calculate the CLV yourself (there are now many tools that do all the math for you), it's important for you to understand the concept of this metric so you can decide whether to use it in your marketing and management decisions.

What is CLV?

Here is the basic definition:

The amount of profit your company can earn from a given customer over the time that person (or company) remains a customer (for example, nth number of years).

At its core, CLV is the present value of all future cash flows that this client generates throughout the duration of his relationship (as a customer) with the company.

This is a very useful indicator.

By comparing CLVs across clients, you can determine which ones are more or less profitable for you. So you can segment your customer base.

Understanding the profitability of each client is the first step to managing your client base. You can then decide where to focus your marketing, product development, customer acquisition, and retention efforts.

The mathematical basis of the CLV indicator is quite complex - it is not something that is easy to do "on the knee".

CLF formula:

• CR = customer revenue,
• C = direct marketing costs per client,
• R = customer retention rate,
• d = discount rate,
• AC = customer acquisition rate.

The interactive form below allows you to make an automatic calculation and understand how various elements formulas affect the final result.

Note: There are several ways to calculate CLV. This interactive illustration shows you one of them.

To use the interactive form, adjust the sliders on the left side - you will see how each factor affects CLV over five years and the expected contribution to coverage (eng. "contribution margin") per client for each year.

An example of a customer lifetime value analysis.

Now imagine that you have a print shop and you would like to find out which category of your customers is most valuable to you:

• small firms who use services almost regularly or
• large companies who make orders only a few times a year, but for significant amounts.

Let's start by finding out the CLV for the first group.

On average, these small customers buy from you 10 times a year and spend $200 per order. Install average number of purchases per year at 10 and average spend per purchase at $200.

Average gross margin for these orders is 41% (set the slider accordingly).

Now the question is how much do you spend on marketing and how effective are your efforts?

Your total marketing budget is $10,000 per year and you have a total of 500 clients, so your Direct marketing costs per customer per year are $20.

You've been making calls and mailings to local businesses to acquire new customers, and you've discovered that for every 100 mailing lists you send, you get 2 new customers. So set the slider customer acquisition rate at 2%.

you have done Good work, retaining customers over the years, so your customer retention rate is 80% for this category of clients (small firms). Set the appropriate value with the slider.

The last thing you need to define is your average discount rate.

When calculating CLV, you determine the average annual return per client over a given number of years. But the profit you make in the future is less valuable than the profit you make today.

Discount rate in the CLV equation is needed to calculate the present value of this future profit and corresponds to the present value of money. Different companies may use different rates, but let's say that you predict that 10% will be the most accurate rate.

You can see that for this category of clients, the five-year CLV is $699.

To compare this result with another category - your large customers, change the parameters as follows:

Large companies order about 3 times a year.

• But they spend almost twice as much per order, so set your average spend per purchase to $400.
• The gross profit (eng. "Average gross margin") is slightly higher: 50%.
• Your mailings and calls are more effective for this category of clients. The customer acquisition rate (English "Acquisition response rate") is 4%.
• "Direct marketing costs per customer per year", "Average discount rate" and "Average customer retention rate" remain unchanged .

The CLV is now $732, which is slightly better.

This may mean that you should spend more resources on large clients. Perhaps you should develop loyalty programs for these customers or make other efforts to keep them.

The most important thing here is that using this model for analysis, you can see how various factors will affect CLV.

For example, what will happen if the average annual number of orders increases, the marketing costs decrease, or the customer acquisition rate increases.

Customer lifetime value is, simply put, how long a customer will be associated with your product. But not all clients can be equally useful for business. There are many "sleeping" buyers on the market, and the most active consumers may prefer yours. Such multidirectional interests constitute the target, for which one has to fight.

Target market must be specific

One of the important principles of marketing management is building an effective marketing strategy based on targeting and positioning. The first step is to classify the client base. Otherwise, all your customers can be considered just a population that consists of various groups that are not differentiated among themselves. Organization of sales in such a situation is a big risk to waste your time and money. In essence, businesses clearly don't know what the right marketing strategy to use and how to sell most effectively.

Target market must be valuable

Customer segmentation is aimed at highlighting the most attractive, able to regularly buy your services. Proper marketing starts with the most attractive segment, which can be reached with a clear and understandable advertising message.

Targeting is the next step to success. It is necessary to effectively attract customers from the selected segment. Customer preferences determine strategy. If you are targeting the youth segment, then your products should be more creative, more colorful and cheaper. Your advertising messages must be bright. But if you are referring to average age, your product must be elegant. This is natural because consumers have more purchasing power. And your promotions should focus on the unique benefits of the service. Thus, the targeting strategy will optimize advertising costs.

Once you have your segment in place and know who to target, you begin the fine art of positioning. The bottom line is to distance yourself from direct competitors according to criteria that are important to customers. If targeting mainly affects the Product and Pricing stage of marketing, then positioning affects the promotion stage and elements of the marketing mix.

When targeting, you need to tailor according to your target segment. Positioning requires making sure that the right advertising message is conveyed to your target segment and that the right products are being offered at the right time.

New customers or regular customers?

Analyzing the current market situation, you will try to find in order to expand your sales market. You will attract new customers and involve them in your area of ​​interest. Advertising costs may vary. This is due to varying degrees of awareness of potential buyers about your offer to the market. In addition, some new customers will be more demanding and compare the company's services with their accumulated experience. For such buyers, more persuasiveness is required.

It is a well-known fact that a company spends more money on attracting new customers than on retaining existing customers. Thus, calculating the cost of living of a client helps to understand exactly what level of income is generated from each client. In addition, a systematic cost analysis provides insight into the difference between the average cost of acquiring new customers and retaining existing customers to identify ways to maximize sales revenue.

What is lifetime value (LTV)

First of all, it is the expected profit that the business will be able to receive from sales from each regular customer in the future. Although the calculations are based on the past history of the relationship with the customer, the lifetime value value is information about the future. The customer base KPI is based primarily on the expected retention rate and costs associated with this process.

The feasibility of retaining customers to a large extent depends on the lifetime value. In fact, customer lifetime value (CLV) or customer lifetime value (LTV) is the net present value of the cash flows associated with customer relationships. Application of this key indicator as a marketing metric, forces a business to focus more on customer service and long-term consumer satisfaction rather than maximizing short-term sales.

How to calculate LTV?

To understand LTV, I suggest using a typical table for calculating lifetime value (all data is fictitious).

Let's say that in the first year you built a customer base of 1,500 customers. Subsequently, you collected statistics about your regular customers, and noticed that in the first year, 40% of buyers did not make repeat purchases. Naturally, you need to grow your customer base, cover your target market original advertising in order to attract new customers. Every year, the whole process of fighting for a client will continue, but someone will never return to you.

Obviously, the loyalty of retained regular customers is higher than that of newly recruited ones. As customers stay with you, their number of orders per year and their average order size tend to increase.

The cost of serving loyal customers is usually lower than the cost of new customers. The company needs less effort to prove the superior qualities of the product. With this fact in mind, you can optimize marketing costs, which will increase business profits without loss.

Business invests for future profit

A company's profit is simple: income minus expenses. But the value of money changes from year to year due to inflation. Additional funding may be required to create a loyalty program. Therefore, it is necessary to divide the profit earned by the discount rate to calculate the net present value of the expected profit. A discount rate (based on bank interest rates) is needed because future profits are not worth as much in today's money as the company's estimated profit.

This postulate is based on the concept of the value of money, taking into account the time factor. The money that a business can invest in building long-term customer relationships should be profitable, but its value changes over time. An investor for every 100 rubles can receive additional income from alternatives investments. For example, he can simply put them in the bank for a deposit and return them without risk with interest. Consequently, in a year, each investment ruble will be of great value to the investor. Determining the value of future earnings at the moment is called discounting. In this case, the discount rate is the rate of return on invested capital required by the investor.

In the examples under consideration, you yourself become an investor, and take the missing amount of investment from the bank as a loan. The discount rate will take into account the percentage of the deposit and the cost of borrowed funds.

After discounting the company's earnings for the second and third years, you can calculate the accumulated net profit company obtained through the implementation of a customer retention program. If we calculate the lifetime value of customers without discounting (simply add up the company's profit for three years and divide by the number of customers in the first year), our calculations will not include the profitability of the company (for the business owner this is a significant point), despite the fact that it directly affects the definition the effectiveness of investments in attracting new customers.

The result of all calculations allows you to determine not only future income from regular customers, but the dynamics of their changes. The Customer Lifetime Value table can be used to estimate the expected results of new marketing programs before you spend a lot of money on them.

Summary

Advantage systems approach to customer retention based on a lifetime value calculation force us to look at the cost of a loyalty program as an asset that can generate income rather than an onerous liability.

The calculation of LTV reveals a balance between the cost of attracting new customers and the company's profit while retaining regular customers.