CUSTOMER LIFE TIME VALUE
Submitted to,
Ms Annie Chacko
Assistant Professor BIMS
Submitted by,
Sneha Mathew
25 A Batch
MBA
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CONTENTS
SL. Items Page no.
No.
01 INTRODUCTION: Customer Life Time 3
Value (CLV)
02 Purpose of CLV 4-5
03 6
How to calculate CLV
04 CLV Example 6-7
05 The Pros and Cons of CLV 7-9
06 10
The Benefits of CLV
07 Conclusion 11
08 References 12
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INTRODUCTION
Customer lifeti me value is the total worth to a business of a
customer over the whole period of their relati onship. It’s an
important metric as it costs less to keep existi ng customers than
it does to acquire new ones, so increasing the value of your
existing customers is a great way to drive growth.
Knowing the CLV helps businesses develop strategies to acquire
new customers and retain existi ng ones while maintaining profit
margins.
CLV is disti nct from the Net Promoter Score (NPS) that
measures customer loyalty, and CSAT that measures customer
sati sfacti on because it is tangibly linked to revenue rather than a
somewhat intangible promise of loyalty and sati sfacti on.
It is one of the key stats to track as part of a customer experience
program. CLV is a measurement of how valuable a customer is to
your company, not just on a purchase-by-purchase basis but
across the whole relati onship.
Customer lifeti me value can also be defined as the monetary
value of a customer relati onship, based on the present value of
the projected future cash flows from the customer relati onship.
Customer lifeti me value is an important concept in that it
encourages firms to shift their focus from quarterly profits to the
long-term health of their customer relati onships. Customer
lifeti me value is an important metric because it represents an
upper limit on spending to acquire new customers. For this
reason it is an important element in calculati ng payback of
advertising spent in marketi ng mix modelling.
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PURPOSE Of CLV
The purpose of the customer lifeti me value metric is to assess the
financial value of each customer. Customer lifeti me value diff ers
from customer profitability or CP (the diff erence between the
revenues and the costs associated with the customer relati onship
during a specified period) in that CP measures the past and CLV
looks forward. As such, CLV can be more useful in shaping
managers’ decisions but is much more diffi cult to quanti fy. While
quanti fying CP is a matter of carefully reporti ng and summarizing
the results of past acti vity, quanti fying CLV involves forecasti ng
future acti vity.
Customer lifeti me value:
The present value of the future cash flows attributed to the
customer during his/her enti re relati onship with the company.
Present value is the discounted sum of future cash flows: each
future cash flow is multi plied by a carefully selected number less
than one, before being added together. The multi plicati on factor
accounts for the way the value of money is discounted over time.
The ti me-based value of money captures the intuiti on that
everyone would prefer to get paid sooner rather than later but
would prefer to pay later rather than sooner. The multi plicati on
factors depend on the discount rate chosen (10% per year as an
example) and the length of ti me before each cash flow occurs. For
example, money received ten years from now must be discounted
more than money received five years in the future.
CLV applies the concept of present value to cash flows attributed
to the customer relati onship. Because the present value of any
stream of future cash flows is designed to measure the single
lump sum value today of the future stream of cash flows, CLV will
represent the single lump sum value today of the customer
relati onship. Even more simply, CLV is the monetary value of the
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customer relati onship to the firm. It is an upper limit on what the
firm would be willing to pay to acquire the customer relati onship
as well as an upper limit on the amount the firm would be willing
to pay to avoid losing the customer relati onship. If we view a
customer relati onship as an asset of the firm, CLV would present
the monetary value of that asset.
One of the major uses of CLV is customer segmentati on, which
starts with the understanding that not all customers are equally
important. CLV-based segmentati on model allows the company to
predict the most profitable group of customers, understand those
customers' common characteristi cs, and focus more on them
rather than on less profitable customers. CLV-based segmentati on
can be combined with a Share of Wallet (SOW) model to identify
"high CLV but low SOW" customers with the assumpti on that the
company's profit could be maximized by investi ng marketi ng
resources in those customers.
Customer Lifeti me Value metrics are used mainly in relati onship-
focused businesses, especially those with customer contracts.
Examples include banking and insurance services,
telecommunicati ons and most of the business-to-business sector.
However, the CLV principles may be extended to transacti ons-
focused categories such as consumer packaged goods by
incorporati ng stochasti c purchase models of individual
or aggregate behaviour. In either case, retenti on has a decisive
impact on CLV, since low retenti on rates result in Customer
Lifeti me Value barely increasing over time.
How to Calculate Customer Lifetime Value
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How do companies calculate customer lifeti me value?
First, calculate the lifeti me value by multi plying the average value
of a sale, the average number of transacti ons, and the average
customer retenti on period.
Lifeti me Value = Average Value of Sale × Number of
Transacti ons × Retenti on Time Period
Since the lifeti me value of a customer is calculated in gross
revenue terms, it does not take operating expenses into
considerati on. How much did it cost to make the product,
advertise, and manage operati ons? Take these operati ng
expenses into account when calculati ng customer lifeti me value.
Customer Lifeti me Value = Average Value of Sale × Number of
Transacti ons × Retenti on Time Period × Profit Margin
Or simply:
Customer Lifeti me Value = Lifetime Value × Profit Margin
Customer Lifetime Value Example
As an example, let’s create a hypotheti cal company to calculate
the lifeti me value of a customer.
The average sale for the bouti que clothing retailer, Bellissi, is
$50, and the average customer shops with them three ti mes per
year for two years. The lifeti me value of this customer is
calculated as follows:
Lifetime Value = $50 × 3 × 2 = $300
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After calculati ng the cost of goods sold (COGS), overhead,
marketi ng, and all other administrati ve expenses, Bellissi’s profit
margin is 20%.
Customer Lifetime Value = $50 × 3 × 2 × 20%
= $300 × 20%
= $60
This calculati on reveals the customer lifeti me value of the
average Bellissi customer is $60 — far less than the lifeti me value
calculated above. As a retailer, this number is used to project
cash flow and to understand how many customers you must
acquire and retain to reach desired profitability.
PROS AND CONS OF CUSTOMER LIFE TIME VALUE
It forces a business to rely on multi ple marketi ng approaches
instead of just one.
When one method of marketi ng has generally be successful, it is
easy for a business to sti ck with that approach unti l they drive it
into the ground, bury it, and then dig it up and use it again after
it has died. Customer lifeti me value forces a business to consider
social, viral, and conventi onal marketi ng practi ces to draw in the
most valuable customers.
It provides a chance to plan for scalability.
If a business knows that their best customers are going to spend
$X and that there are #Y customers who purchase on a daily
basis, then there is a chance to plan for scalability. Surprises are
nice in the business world when they are profitable, but if you
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need to instantly scale from 5,000 to 500,000 orders, that’s a
surprise that might not put a smile on the face. Customer lifeti me
value lets a business plan this out more eff ectively.
It naturally divides a targeted demographic into meaningful
segments.
Customer segmentati on naturally occurs when applying customer
lifeti me value. This actually benefits every segment because it
allows a business to identi fy what specific needs each segment
requires. In doing so, there’s a chance to improve the value
propositi on to each group so that every segment can experience
an increase in growth.
It places the emphasis of success squarely on the customer.
The ego can quickly get in the way of doing business today. How
many ti mes have you seen businesses talk about how many
awards they’ve won, how much money they make, and other
accomplishments that they’ve achieved? The customer lifeti me
value switches the dynamic by forcing the business to examine
the accomplishments of their customers instead.
CONS
It is easy for a company to put on blinders to focus on just one
core group of customers.
Finding your best customers and then cloning them or winning
them back for repeat business is important. It’s also important to
give attenti on to the other customer segments who might not be
your best, but sti ll contribute a fair amount to your bottom line. If
only one core segment receives attenti on, it’s enti rely possible
for a company to lose money instead of make it.
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The future is diffi cult to predict.
In 2006, people were buying homes on sub-prime loans. Most
people didn’t expect the market to drop out 18 months later.
Suddenly what looked like a great investment for the future
became an underwater monstrosity. Even when using a tool like
customer lifeti me value, it is important to remember that this is
just a tool. It’s a way to think about the future and make plans –
just not permanent ones.
It takes the passion out of what you’re doing.
Customer lifeti me value is essentially a marketi ng component
that needs to be ground out for it to be successful. Experiencing
the daily grind on a repeti ti ve basis will eventually lead to burn
out for even the best of people. The danger here is that someone
can lose their passion for what they’re doing, driving their best
customers away because the value propositi on has been reduced.
It’s not factual.
You’ve got to guess at what your best customers are doing when
they’re not interacti ng with you. Even if you ask questi ons, you
won’t get a complete picture. That means you’re banking the
future of your business on what is at best an educated guess. Not
everyone business, quite obviously, is willing to do this.
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The Benefits of Customer Lifetime Value
When you emphasize customer lifeti me value, you can culti vate a
base of loyal customers to ensure steady returns on a regular
basis. This strategy will secure your market presence for decades
to come.
Cultivati ng customer lifeti me value:
Is Cost-Effecti ve: Convincing a new customer to make a purchase
is an expensive process. It costs adverti sing dollars and requires
sales people and someti mes even the collaborati on of several
diff erent teams. By simply keeping the customers you already
have, you avoid paying these expenses a second ti me.
Fosters Brand Loyalty: Customers with high customer lifeti me
value have proven
their loyalty, and loyal customers are likely to spread good word-
of-mouth about your brand and evangelize online. This provides
unsolicited testi monials, which potential customers see as highly
credible, and improves your brand reputati on.
Saves Time: Knowing each customer’s customer lifeti me value
helps you identify where your customer success team’s eff orts
are most likely to pay off and who would benefit from an upsell.
High customer lifeti me value clients already have a track record
of bringing in strong revenue, so go straight to this group when
looking for growth areas.
Predicts Churn: Customers with high lifetime value are less likely
to churn. They have a track record of success with your product
and aren’t likely to leave unless something changes dramati cally.
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CONCLUSION
Customer lifeti me value is all about forming a lasti ng positi ve
connecti on with your customers. More than just a simple
exchange of goods for money, CLV is a measurement of how
valuable a customer is to your business over time. Of course, not
all customers are valued equally. And because it’s less expensive
to keep existi ng customers than it is to find new ones, keeping
your CLV high can be essenti al to the success of your business.
After all, a higher CLV means that you have more loyal customers.
However, it determines the financial value of each of your
customers. In and of itself, that’s an important purpose. But CLV
is also unique in that it can look forward, as opposed to a concept
like customer profitability, which measures past acti viti es in order
to gain insights. Much like you should always be looking into the
future to determine which products you should sell, various ways
you can optimize your business, and how you might serve your
customers better, CLV can forecast future activity to improve
your bottom line.
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REFERENCE
[Link] me_value
[Link] me-
value/
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[Link]
benefits-of-customer-lifetime-value-why-it-matters-02215821
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