Customer Lifetime Value (CLV)

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Definition of Customer Lifetime Value

This is a calculation of the total value of a customer over their entire journey with a brand. This can be calculated by looking at the total amount a customer has paid, subtracting the gross margin, and dividing by the churn rate (or cancellation rate) for that customer.

Formula:

Customer Lifetime Value (CLV) =
(Purchase Frequency [PF] × Average Order Value [AOV] × Gross Margin [GM] × Customer Lifespan [CL]) /
Number of New Customers

Note: This was adapted from the Omniconvert blog

Terms:

• Purchase Frequency (PF): This is how often the average customer makes a purchase from you. Choose a measurement for frequency that makes sense for your business. For instance, a car manufacturer and a quick service restaurant are going to have different time frequencies that make sense. The former might be in years and the latter in weeks.
• Average Order Value (AOV): This is the average amount a customer spends with your brand.
• Gross Margin (GM): This helps you calculate the amount of profit you make on each order, and gets to a much more accurate number than simply using the Average Order Value (AOV) as your measurement of how much you make from the average customer.
• Customer Lifespan (CL): Again, make sure to make this in the same unit of measurement of your purchase frequency (weeks, months, years).
• Number of New Customers: This is the number of new customers you gain within the same unit of frequency chosen for purchase frequency and customer lifespan.

Why Customer Lifetime Value is so Important (5 reasons)

1. Repeat Customers Mean More Revenue
   One of the main reasons why CLV should be a focus for marketers is that repeat customers can generate a significant amount of revenue for your business. According to a study by Bain & Company, a 5% increase in customer retention rates can result in a 25-95% increase in profits. This is because loyal customers tend to spend more money over time and are more likely to recommend your business to their friends and family.
2. Retaining Customers Is Cost-Effective
   Acquiring new customers can be an expensive endeavor. You may need to spend money on advertising, promotions, and other marketing tactics just to get someone to try your product or service. However, retaining existing customers is much more cost-effective. Not only do you already have their contact information, but you can also leverage data analysis to identify their interests and behavior, making it easier to keep them engaged with your brand.
3. Loyal Customers Enhance Your Reputation
   In today’s world of social media and online reviews, the reputation of your business can make or break your success. Loyal customers are more likely to leave positive reviews and recommendations online, which can have a significant impact on your brand’s reputation. On the other hand, if you have a reputation for poor customer service or lackluster products, it can be difficult to attract new customers and retain existing ones.
4. Loyal Customers Provide Valuable Feedback
   Another benefit of focusing on CLV is that loyal customers often provide valuable feedback that can help you improve your products or services. They may suggest new features or offer insights into how you can better meet their needs. By listening to their feedback, you can fine-tune your offerings and create a more enjoyable experience for your customers.
5. CLV is a Long-Term Strategy
   Finally, it’s worth noting that CLV is a long-term strategy that can help you build a sustainable, profitable business. While acquiring new customers is important, focusing solely on short-term gains can be detrimental in the long run. By prioritizing CLV, you’ll create a loyal customer base that will not only boost your revenue but will also help you weather any challenges that come your way.

Related Terms

• Average Order Value (AOV)
• Key Performance Indicators (KPIs)
• Customer Acquisition Cost (CAC)
• Cost Per Lead (CPL)
• Customer Lifetime Value Model (North Star Goals)
• Employee Lifetime Value (ELV)
• Recency, Frequency, and Monetary (RFM)
• Return on Ad Spend (ROAS)

Platforms

Resources related to Customer Lifetime Value

• Book: House of the Customer (2023) by Greg Kihlström
  • Customer Lifetime Value Model is mentioned as one of the four “North Star Goals” all brands should be striving to achieve.
• Articles:
  • Reuters: “Lifetime value” is Silicon Valley’s next buzzword (December 2022)
  • The importance of making customer value a top priority
  • Customer Experience Drives Business Growth
  • The importance of measuring Customer Lifetime Value (CLV)

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