How to Calculate and Increase Customer Lifetime Value

As the economy becomes increasingly customer-centric, delivering great customer experience has become central to retaining business and increasing profits.

By understanding the different market segments within the customer base and their associated customer lifetime value, companies are able to strategically target the most valuable customers to increase retention, and improve their offering for similar high value targets.

What is Customer Lifetime Value?

Customer Lifetime Value (CLV), sometime called life-time value, is a prediction of the total net profit a company can expect to make from a customer over the course of their relationship.

Why does Customer Lifetime Value matter?

In the most simple terms, knowing how much your customers are worth to the business affects how much you can spend on acquiring and retaining them.

If you calculate your customer acquisition costs in addition to CLV, you have the basis for calculating the return on investment of winning new customers.

Rather than relying on generalities or conventional wisdom, such as the Pareto principle or the much quoted (and disputed) “acquiring customers costs 5X more than retaining them”, crunching the numbers yourself can give an accurate framework for your operations.

It’s important to note that calculating a life-time value for your entire customer base is misleading and can group together very different consumers, with widely different values to your business.

To really understand your consumers and the financial costs and benefits properly, you need to segment your market.

Customer segmentation and CLV

The aim of segmentation is to discover groups with similar needs to make your operations more efficient.

In terms of CLV, you can identify groups who have different projected spend and lifetimes with the business, discover and reduce their specific pain points and reasons for churn, and take steps to increase that group’s CLV.

Segmentation can be based on a number of variables.

How you choose to segment your customers will vary by business and vertical. B2B companies might segment by criteria such as industry or revenue.

For B2C companies it could be demographics, psychographics, lifestyle, geography, and so on.

What are the benefits of segmenting your audience?

By segmenting your customers into different groups, you can work out which groups in your customer base are the most valuable to you.

This allows you to nurture existing customers, but also fold that knowledge into acquiring new customers.

Calculate and improve ROI for customer acquisition

Identifying segments with a high CLV allows you to prioritize these groups, focus your marketing on their needs, and spend more on winning their custom.

Understand key decisions

A particular group of your existing customers may have had common reasons for choosing you.

Taking this knowledge into your marketing strategy gives opportunities for much more effective targeted positioning.

Enhance retention marketing

There may be common reasons for churn within a market segment. Identifying these allows product and marketing to focus on reducing these pain points, thereby increasing CLV.

Improving customer support and retention

Using CLV to identify your most valuable customers means you can pay them special attention. By fostering stronger relationships you can reduce churn among your most valuable customers.

Prioritize product improvements

Different sectors will want different products and features. By understanding these groupings, and prioritising the high value customers, you can feedback into product development to improve your offering.

How do you calculate CLV?

There are a lot of ways to calculate customer lifetime value.

As the calculation can be affected by churn rate, discount rate, profit margins, retention costs, and more, an increasing number of variables can be brought in. The best formula will depend on the product or service you are selling, so do some research to find the most suitable.

The simplest way of calculating Customer Lifetime Value uses the below formula:

CLV = (Average Order Value) x (Number of Repeat Sales) x (Average Retention Time)

If that seems too simplistic, try reading this 55 page academic study on customer lifetime value, which features the below formula as one of several detailed calculations.

If, like me, that is enough to make your head spin, you can still understand your customer segments using the much simpler formula.

While it does not take in as many variables, and therefore may lack the same level of accuracy, important insights into customer segments can still be surfaced.

For the most accurate calculations, you probably want to research the most appropriate formula for your situation.

What can improve CLV?

To a large degree, improving customer lifetime value means improving customer experience. Here are some of the ways you can increase both.

• Post-sale communications, such as follow-up emails or in-app messaging can be used to enhance the sales experience and answer common questions. Use customer service to drive customer experience. Every customer interaction with your company is a chance to add value. Research shows how important customer service is for retaining customers and gaining advocates.
• Incorporate customer feedback to improve product and experience, particularly your most valuable customers.
• Personalization. Particularly in ecommerce, personalization can provide a more user friendly experience.
• Reward loyalty. Whether early access, exclusive news and events, or members discounts, rewarding loyalty adds to the positive customer experience.
• Improve onboarding and support. Some product categories require an onboarding process. Successful onboarding is key to ensuring your customers are getting the most out of their purchase. The more they benefit, the longer their customer lifetime is likely to be.
• Upsell. Upselling will increase the financial side of the equation rather than the lifetime side. Avoid creating an environment where your customers feel like they are being bled dry.

Better understanding your segments

Once you have split your customers into groups based on CLV, you should be able to see similarities within the groups. Doing further research to understand common themes can help you build further on the above points.

Your first port of call should be speaking to existing customers, who can be a very valuable resource.

Any techniques to build upon the understanding of your audience will add value, from building buyer personas to understanding the industries and demographics that have higher CLV.

Brandwatch is a global leader in social intelligence, so understanding an audience is right up our street; from analyzing your current customers to listening to your target audience.

The data available through social intelligence is a valuable addition to audience insight methods.

We’re pretty big on categorization too, so you can slice and dice the data in whatever way suits you. And our new Brandwatch Audiences platform allows users to build custom audiences from scratch, instantly surface insights, discover the topics that matter to them, and study the content being shared in seconds.