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Customer Lifetime Value

Tuesday, December 04, 2012   By Mike Reddy

 

Customer Lifetime Value (CLV): an estimate of the net profit that will result from a single customer over the time they deal with you.

These days, marketing strategies are focusing on becoming more customer-centric. All businesses need to learn the value of applying an equal emphasis to retention of existing customers as they do to attracting new ones.

How much you spend on retaining a customer should be relative to the profit that customer is likely to contribute.

And the easiest way to measure the value of a customer is to calculate your average CLV. By estimating a customer's value you will have solid information for your marketing decisions.

Determining a CLV also can be used as an evaluation tool, defining characteristics that produce higher values and exposing behaviours that influence the CLV.

There are different calculations that can be used depending on what variables are in play. Below is a simple Ecommerce example:

$100 average monthly spend X 25% margin ÷ 5% monthly churn = $500 CLV

In this example the variable 'churn rate' is the percentage of customers who end their relationship with the business, in a given time period.

You could use other variables such as a discount rate, retention cost, contribution margin and period (the unit of time in which the customer relationship is analysed, usually one year), however the simpler approach will still give you good information.

The lifetime value can also evaluate how much is appropriate to spend on acquiring a customer. For example, if a potential customer costs $100 to acquire, and their CLV is $150, there is a potential for a $50 profit.

The clear message is the longer you invest in and nurture your customer relationships the higher their CLV and the more profitable your business.

With the right diagnostic tools and regular evaluations your firm can consistently and effectively be working towards the goal of increasing CLV's for all existing customers.

When you understand how some customers/groups provide very little profitability to your business, it's an easy step to realising that not all customers are equal.


Mike Reddy is a Chartered Accountant, business coach and advisor helping businesses in Sydney, Melbourne, Brisbane and Gold Coast to easily increase their profits and cash flow. He is currently President of the North Sydney Chamber of Commerce, a Regional Councillor for Sydney North East and a member of the Institute of Chartered Accountants Sydney leadership team. As well as advising businesses, Mike presents business development seminars and webinars and is regularly contacted by the media to comment on small business matters. You can connect with him on Facebook, Twitter and Google+.