What is Customer Lifetime Value?
Customer Lifetime Value (CLV) is the profit a business makes over the whole period of the relationship with a customer. In other words, CLV shows how much an average customer spends during their lifespan.
What is CLV's importance?
CLV is widely used in sales and marketing to make informed decisions when creating strategies.
How does CLV impact decision-making?
- It shifts the focus from short-term to long-term customer relationships.
- CLV helps prioritize customer segments that bring higher value.
- It helps understand what keeps customers engaged and improve services accordingly.
- By understanding CLV, businesses can more confidently define acquisition costs.
Customer lifetime value formula
The customer lifetime value definition is closely tied to its formula, which helps better understand what CLV means. One of the CLV formulas implies multiplying the average purchase value, average purchase frequency, and customer lifespan.
- Average purchase value is the ratio between the total revenue and the number of purchases.
- Average purchase frequency is the ratio between the number of purchases and the number of unique customers.
- Average customer lifespan is the average number of years a customer continues to purchase from a company.
Thus, if a store’s average purchase value is $100 and a customer purchases five times per year within five years, CLV is $100 × 5 × 5 = $2,500.
If you want to get more information about the profit you get from an average customer, you need to subtract the marketing costs associated with customer acquisition and retention over the customer’s lifespan.
You can use an even more advanced formula for customer lifetime value.
- Average revenue per account is the ratio between the total revenue and the number of accounts.
- Gross margin is the difference between the revenue and cost of goods sold divided by the revenue.
- Churn rate is the ratio between the number of lost customers and the total number of customers.
So, if an account generates $100 on average, gross margin is 40%, and churn rate is 10%, the CLV is $100 * 0.40 / 0.10 = $400.
What is a good customer lifetime value?
Customer lifetime value benchmarks depend on the industry. However, a good rule of thumb is that the CLV of any profitable business should be at least three times higher than marketing, production, and shipping costs.
A higher CLV indicates that customers are not only making repeat purchases but also sticking around longer, which can dramatically improve profitability. To achieve this, businesses often focus on customer retention strategies, improving the average order value (AOV), and personalizing the customer experience.
The most common techniques to improve CLV
The techniques of CLV enhancement are the combination of practices involved in customer retention and AOV improvement. Here, we recall some of them.
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Loyalty programs Implementing loyalty programs that offer bonuses and discounts to existing customers increases purchase frequency, which leads to CLV improvement.
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Cross-sell and upselling By offering supplementing products and items of higher value, merchants can increase AOV and, as a result, positively impact CLV.
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Responsive customer support To boost customer retention, merchants must ensure quick and effective customer services that increase customer satisfaction and reduce churn rates.
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User feedback Polls and questionnaires tell you more about your customers' preferences and factors influencing their purchase decisions.
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Personalization Personalization, such as recommendations and nurturing emails tailored to customer interests, can increase conversion rates, improve CLV, and boost overall sales.
Learn more about how to increase customer lifetime value and drive long-term growth in our comprehensive guide.
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