Customer Lifetime Value: How to Calculate CLV?

For you to measure the success of your business, you must use different metrics and customer lifetime value or CLV is one of them. In this article, I will tackle what CLV is, show you how to calculate it, and give you tips on how to improve it.

Customers are the heart of every business. Regardless of the industry, the customers play a vital role in a business’s success. That’s why one of the top priorities of businesses nowadays is customer experience. Another reason is that study shows that 86% of customers are more willing to pay more for a great customer experience.

But what is CLV and why it is important for your business?

What is Customer Lifetime Value?

Customer Lifetime Value or CLV is used to measure the profit margin that your company can expect to earn over your entire business operation with your customers. It also measures how long it will take you to recoup the investment required for you to acquire new customers.

You should put up your CLV with your CAC or customer acquisition cost as both works hand-in-hand in defining how much time it will take you to get a return on your investment with your average customers.

It also helps you know how to improve your customer service as it is becoming more and more important for consumers.

Customer Experience Data
Source: Microsoft

Why is Customer Lifetime Value Important in 2021?

Not all your customers can be valued equally, but by having a metric to measure how valuable a customer for your business is, you will know what to do to satisfy them. CLV is used to know the financial value of each of your customers. It can also measure customer profitability by knowing your average customers’ past activities. With this, you will have an insight into what services or products you will prioritize and even the type of messaging you will use to attract customers, helping you optimize your business and serve your customers better.

Furthermore, measuring your CLV lets you evaluate how much your investment should be for you to retain your customers. When your customers stay, you’ll be able to plan your budget between retention and acquisition of customers. Thus, you will be able to dedicate more resources that can encourage your customers to spend more while they stay with your brand. These resources should help you improve your customers’ experiences as study shows that people tend to focus more on the customer experience than the price.

Customer Experience Data
Source: Gartner

In addition, you’ll be able to come up with good strategies that can help you lower your acquisition costs while keeping your retention rate high. When you know your CLV, you will know how to improve it and that means improving the other aspects of your business too. These aspects include customer retention, which is really important for your business as retained customers generate more revenue in their customer lifespan.

Lastly, CLV can help your management team further understand the real value of what you offer because that value depends on the willingness of the customers to purchase the products or services in a repetitive manner. This is important as it will boost your team’s morale and motivation.

Easy Way to Calculate Customer Lifetime Value

Before calculating your CLV, you must first determine four important KPIs f your business. Let’s break down the metrics so you’ll know the process on how to calculate CLV.

Average Order Value (AOV)

AOV tracks the average amount spent each time a customer orders. It is an important metric for you to have an insight into how you have your gross profit or profit margins.

To calculate your AOV, you must use this formula:

AOV–Important customer lifetime value metric

For example, your business had annual revenue of $500,000 and the total number of orders is 50,000:

2,000,000 / 50,000 = 40

Your company has an Average Order Value of $40.

Purchase Frequency (F)

Purchase frequency refers to the number of times your average customer purchases your product. This metric, together with the Repeat Customer Rate metric can help you track your customer retention. It is also one of the most important metrics in measuring your CLV.

Purchase Frequency Formula:

Purchase Frequency–Important customer lifetime value metric

Let’s say your annual Total Number of Orders is 50,000 and the Total Number of Unique Customers is 15, 000:

F = 50,000 / 5, 000

F = 10

Your company has a Purchase Frequency of 10 times per year.

Customer Value (CV)

Customer Value is important as it will help you determine how much you should spend in acquiring new customers. When you know your customer’s value in monetary terms, you will value them more and provide them with the best experience you can offer.

Here’s the formula for Customer Value:

CV–Important customer lifetime value metric

Earlier, we have computed your company’s Purchase Frequency and Average Order Value:

AOV = $40

F = 10

CV = 40 x 10

CV = $400

This means, your company’s Customer Value is $400.

Customer’s Average Lifespan (T)

Your customer’s average lifespan is the final piece of Customer Lifetime Value. This is the average time a customer stays in your company and remains active before becoming dormant.

This is how you calculate ACL: Sum of Customer Lifespans / Number of Customers

However, even with the formula, ACL is the hardest metric to calculate accurately. Therefore, e-commerce experts suggest that instead of calculating it, we should use 1-3 years average lifespan as a reasonable number for which customers remain active. Meanwhile, for stores that have customers with a limited attention span, a span of 1-2 years is used.

The Customer Lifetime Value Formula

Once you have determined all the important metrics you need, you start calculating your customer lifetime value. To do that, you must follow this formula:

Customer Lifetime Value Formuala

CLV = 400 x 3

CLV = $1,200

This shows that with all the given metrics, your company has a CLV of $1, 200.

How can you increase customer lifetime value?

1. Establish your brand’s value.

When you’re able to establish the quality of your services or products, you will be able to increase your pricing. Selling your products and services at a higher price can increase your Average Order Value and can directly increase your CLV. With this, you need to focus on having better marketing strategies that can promote your brand as the one with the highest quality in the industry you are in.

2. Provide the best experience to your customers.

Again, customers are the heart of your business. When you provide the best customer experience, alongside your products and services, your customers will stay. Most companies nowadays offer complimentary loyalty perks, free shipping, package deals and more, in order to attract their customers to increase their spending habits.

3. Focus on remarketing and retargeting.

Retargeting and remarketing campaigns can help you win back your customers over and over again. Not all these people who visit your profile will be converted into loyal customers. Some of them just open the site then leave. However, since they have shown their interest in your brand already, they are more likely to convert. Retargeting and remarketing can help you reach out to these people until they are converted into paying customers.

4. Leverage your thank you emails.

In order for you to keep in touch with your customers, show them our gratitude. The moment your customers purchase something from your store, a thank you email should be sent to them so they know you appreciate their patronage.

Most companies do not see this but thank you emails can be the start of an email drip campaign that can win customers’ loyalty more. You may send a quick survey to them with a coupon or anything that may encourage them to buy again. Doing so can increase the customer lifetime value exponentially.

5. Start funneling your social media traffic.

Your potential customers are probably on social media, so you must focus on them as well. Keeping in touch with your customers via social can make them come back to your site over and over again. With this, you need to make sure that you have a great content marketing strategy so your regular customers and potential clients can be targeted accordingly.

This will help increase your brand awareness and media presence which is helpful if you want to get more popular.

Determine Your Customer Lifetime Value!

Customer lifetime value, like any other business metrics, matters more than you think. prioritizing it can impact your customer retention rate and your profit, of course. Retaining your customers while acquiring new ones can send your business to greater heights.

You must know that the more effort you put into increasing your customer lifetime value, the more revenue you will gain. Furthermore, you will know that you are making a better impression on your customers if your CLV is continuously increasing. If not, then it shows that you need to do some improvements to your strategies.

If you’re not focusing actively on calculating and improving your business’s CLV, now’s the time to start!

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