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What is LTV and How To Calculate Customer Lifetime Value (CLV)

What is LTV and How To Calculate Customer Lifetime Value (CLV)

When customers are the cornerstone of your business, it’s essential to know and measure what they bring to your company. It costs money to bring in new clients, so determining how much their lifetime value is worth to you while comparing it to the cost of customer acquisition, your business knows how long it will be before you recoup those costs.

What is LTV?

The lifetime value of a customer is how much money they will spend with your company from the start of your relationship to the end of it. There is a simple customer lifetime value formula to determine this. Leveraging your average LTV calculation will help you adjust your marketing efforts while maintaining your bottom line.

Why should every business know their customer LTV?

There are plenty of excellent reasons to know your customer lifetime value metrics, first and foremost being that it directly affects your revenue. Customer LTV is direct revenue to your business. It can help identify any other products you may be able to offer your customer. The more you can upsell them, the more revenue for your business, and the higher their value. Customer service is a significant part of any business. We all have negative customer experiences that we hold onto, so investing in programs for your business is one of the best ways to improve your reputation. When you are known for your customer service, you will be recommended to friends and family, and people who are on the fence will choose you. 55% of growing companies place value on customer service programs, and 29% of stagnant or failing businesses don’t place as much value on that sector of their business, according to HubSpot research.

Knowing your customer LTV and optimizing it can help you improve your customer loyalty and retention rates. When you invest and perfect your customer service programs, providing the customer more value through loyalty programs, and have exceptional products, you have a recipe for success. Customers love to have a great experience with your business if they love your products. When customers are happy, they’ll refer you, leave positive reviews, and share your social media posts.

Being aware of how much money your average customer will spend with your company helps you attract your ideal client. When you know how much they spend, you can develop a strategy to attract your ideal client.

Each customer you attract costs money. From marketing costs to employee wages, each new client costs between 5 and 25 times more than a customer you already have, according to Harvard Business Review.

Retaining your new clients means you grow your profit from them. These small details add up to big money for your business that can be invested into product development, research, or programs.

How much do your customers cost?

Customer acquisition cost is the amount of money that you invest in attracting customers. This metric includes special offers, advertising costs, marketing, and more. Customer LTV is only accurate if you include these costs.

Suppose your customer’s LTV is $1,000, but it costs you $1,500 to attract them into your business. Your business is losing money with each new client that comes through the door. Another metric to consider is the cost to serve, which is how much it costs to do business with your customer. Cost to serve incorporates every action from the customer walking through the door to purchasing your product and leaving. This includes rent, utilities, employees, cleaning, and more. Most of these costs are considered overhead, but they’re essential to know. Looking at these details closely can help you adjust and pivot while maximizing your profits. There are many variables between customers, and not all of them are created equal, but having a handle on knowing how much they cost will help you properly use the customer lifetime value formula.

What is the customer LTV formula?

When measuring lifetime value, the formula includes the total amount the customer has spent with your company multiplied by the number of purchases they’ve made in a year, multiplied by how many years they’ve been doing business with you. The outcome will be the total value the customer has spent with your company for the entirety of your relationship. Doing this for all your customers will give you a big picture of how many clients you have and how much they spend with your company. You can use that data as a jumping-off point for many strategies.

If you want to be entirely accurate, some companies use the exact dollar amount that each customer has spent to determine their lifetime value. Other companies use margins and to find out gross figures. Determining the average margin on the products you sell and adjusting the order totals can bring you a more accurate number based on profits.

Determining accurate customer acquisition cost to compare to customer LTV requires reviewing the cost of marketing and acquisition. Dividing all your expenses related to marketing, advertising, campaigns, and setting up a new client by the number of new clients you obtained during the time that the marketing efforts were full force will help you determine what each new customer cost to bring in.

Not only does this help you determine how much your clients cost to bring in, but it can help you determine which of your marketing efforts are the most effective. There are plenty of sophisticated software options to help you quickly determine customer lifetime value against all your other expenses, but it can also be done by hand. It just takes a bit longer.

Recap

Customer lifetime value is a worthwhile calculation to make as a business to determine the amount of money your customers spend with your company over the lifetime of your relationship with them. The customer lifetime value formula includes taking the amount of money they spend per year multiplied by the number of years they’ve worked with you. Knowing customer LTV can help you adjust marketing efforts, streamline your acquisition process, and increase your profits.

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