Tuesday , May 18 2021
Lifetime Value of a Customer

What Is the Lifetime Value of a Customer and How Do You Calculate It?

What’s your company’s marketing budget?

As a business-to-customer company, your marketing budget should be between 5 to 10% of your revenue. Depending on how much your company’s earning, your marketing budget could range from a few hundred dollars to hundreds of thousands.

The payoff of a well-engineered marketing campaign can be mind-blowing. However, to acquire new customers, you’ll first need to fully understand how to accurately calculate the lifetime value of a customer.

By taking a look at the long-term financial picture, you’ll be able to help your company grow like never before. So read on! By the time you’re done reading this article, you’ll be 1 step closer to helping your company reach new heights!

What’s the Lifetime Value of a Customer

The lifetime value of a customer is the profit margin you can realistically expect to earn from 1 customer throughout your entire relationship with them.

To get an accurate picture, your customer lifetime value has to account for the cost of acquiring the customer in the first place. For instance, what type of expenses did your business spend on marketing material so that the customer could discover your company? What’s the total of the expenses that went towards the sales and onboarding process for new customers?

All of these evaluating factors will come into play to determine a customer’s lifetime value. Unfortunately, a lot of businesses make the mistake of using a short-sighted approach. Failing to account for the different expenses that go into acquiring a new customer, short-sighted approaches won’t help you create a long-term business model.

Instead, if you want to improve customer acquisition, and retention, you have to use a wealth of information to create accurate financial projections. You can also begin learning how to retain customers for a longer period with tools like customer journey maps. Moving on, let’s look at an equation you can use to determine your customer’s lifetime value.

Lifetime Value Equation

To avoid taking a short-sided approach, you’ll want a thorough equation for determining the customer’s value. What does a thorough equation look like? You can start by determining the average value for each sale you make to the customer.

Once you know the average value of the sales you can multiply that number by the number of transactions the customer has made. Next, take the sum of multiplying the sale average and transactions, and multiply that sum by the customer’s entire retention. Lastly, multiply the sum by the total profit margin.

The average of each sale you make to the customer, the number of transactions, and the retention period all relate to the lifetime value of the customer. When you multiply that amount by the profit margin, you’re able to get an accurate view of what that customer is truly worth.

Let’s say you’re a shoe company, and the average sale you make has a value of around $50. The average customer shops at your store 3 times a year, for about 2 years.

How would we calculate the value of this average customer? First, you need to determine what your profit margin is by determining all of the costs involved in each sale. For this example, let’s pretend that your profit margin is 20%.

We know that the customer spends $50 on average for each sale, comes 3 times a year, and has a retention period of 2 years.

When we multiply $50x3x2 we get $300. Next, we have to multiply $300 by the profit margin, which is 20% for this example. The result is $60. Now you know the average customer, based on the information in the equation above, has a lifetime value of $60.

Segmenting Your Customer Database

Now that you know an equation for determining a customer’s lifetime value. Next, let’s talk about how you can segment your database. As a business owner, you’ve noticed that not all customers behave in the same way.

For instance, you have your frequent flyers, random walk-ins, and everywhere in between. By segmenting your database you’ll be able to get a more accurate picture of how each customer impacts your company. Instead of lumping all of your customers into the low-frequency shopper or high-frequency shopper, you’ll be able to properly place them in the category they belong.

How can you segment your database? It’s a lot easier than you might think. For starters, you’ll need to keep track of all your business transactions.

If you don’t track all of your sales, it’ll be impossible for you to determine what your return on investment is for each customer segment. Next, it’s helpful if you have some type of customer management software to neatly organize the data for you.

For instance, you can use a filter in the software to view all transactions under $100, under $50, and so on. Segmenting your database is also a great way to realize the opportunity. For instance, what is it that makes your low-frequency shoppers buy fewer items? Asking these hard questions is one of the fastest ways to help your company rise to the top.

Customer Retention and Journey Mapping

Finally, let’s take a look at how you can use the information you get about your customer’s lifetime value to grow your company. One of the biggest factors that impact your customer’s lifetime value is the retention rate.

If you want to improve your customer retention rate, then you should learn what customer journey mapping is all about. A customer journey map gives you an inside view of what it’s like for a customer to interact with your business and product.

By getting an accurate journey map in place, you’ll be able to identify pain points. Pain points are areas of your business that if improved, the customer’s experience would greatly improve. By eliminating as many pain points as possible from your company, you’ll be able to improve your customer retention rate!

Watch Your Company Soar

Congratulations! Now that you know how to calculate the lifetime value of a customer your company can reach previously impossible heights. Remember, determining accurate lifetime values means looking at the entire picture. Take a few moments today to determine what the average retention rate is for your customers. Next, start looking at ways you can improve the customer experience to increase your retention rates. Are you ready for more savvy tips like the ones in this article? Go ahead and check out the rest of this site.

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