008: Understanding Your Customer Lifetime Value: Learn How To Calculate It and Improve Your Marketing
The more I work with Entrepreneurs and Business Owners, the more I realize that one of the biggest and most vital questions they’ve failed to ask or answer is – what is the the Lifetime Value of your Customers?
So let me ask you, do you know what your Customer Lifetime Value is?
Do you know how to determine, quantify, or calculate what your (CLV) Customer Lifetime Value?
If you’re answer is a resounding no then you’re in the right place because today we’re going to briefly talk about what your CLV is, how to calculate your CLV, and why it’s important to know and understand your CLV so you can create effective and informed client acquisition and marketing strategy decisions.
Real World Example
I recently met with a prospective client who wanted my help growing their Salon & Day Spa business. As I met with them, I started walking them through a possible customer acquisition and marketing strategy, where in part we were going to utilize the power of Facebook ads.
As with most growth strategies, at least where Paid Advertising is concerned, we would need to spend money to make money. However, before we could determine any type of Ad campaign budget we needed to first identify how much we could even spend on our campaigns, so that we could further identify what an acceptable or profitable CPA or “Cost Per Acquisition” was for each new lead and customer.
Here’s the thing, to make Facebook Ads or really any form of paid advertising make sense and work for your business you need to 1) come up with a great offer and 2) understand how much it’s going to cost you to acquire those new leads and customers. For now lets just focus on #2 and we’ll save the topic of “what makes a great and compelling offer” for another day.
So back to this prospective client I was meeting with, they owned a high-end boutique salon and day spa. Now while there are a few different ways to calculate and determine your CLV, I’m going to walk you through the simplest and easiest way to calculate your Customer Lifetime Value or CLV.
In this super simple equation, there are essentially 4 variables you need to determine to properly calculate your CLV. Those variables are:
- Frequency: Average Amount Each Customer Spends Per Visit/Interaction
- Spend: Average Number of Customer Visits
- Depending on your scenario this could be weekly, monthly, or annually
- Lifespan: Average Length of Time a Customers Stays a Customer
- Retention: Average Customer Retention Rate
So back to my prospective client. On average their customers: visited the salon 9 times per year, their customers spent $150 dollars per visit (on average), they remained a customer for at least 8 years, 90% of Customers remained loyal and kept coming back.
This means on average he had a customer:
- Frequency = (equal to) 9
- Spend = $150
- Lifespan = 8 Years
- Retention = 90%
Also view chart near the bottom of the page
So now that we have all of the variables lets actually calculate the Customer Lifetime Value for each of his clients… we take the FREQUENCY and multiply it by SPEND, so that gives us $1350, then we multiply the sum of FREQUENCY and SPEND by LIFESPAN, which gives us $10,800 now to finish up we simply take that sum and multiply it times the RETENTION RATE, which in this case is 90%, so $10,800 times 0.90 gives us a grand total of $9720. Now in the simplest of terms we know the value of each customer on average is $9720.
Just as a side-note there are other methods you can use to determine you CLV when using things like discounts etc… but for today we’re keeping it super simple.
So now that we know the average value of each new customer on average is $9720, we are given the ability to make better decisions that play into the overall value of each customer. To explain what I mean by that, with the client I was meeting with we were discussing potential offers to get new customers in the door, so for example giving away a free hair cut and color to new customers coming in for the first time. Giving away or rather investing the upfront $150 cost to get a new customer in the door is worth it when you know that on average their value is $9720.
Now before I leave you today, I want to make sure you know that being able to calculate and understand your CLV is just one of the many variables you need to take into account when talking about your CPA, Free or Discount Offerings, etc… but understanding your CLV is a huge first step in the right direction…
So I hope todays little workshop helps you better understand, evaluate, and create better client acquisition and marketing strategies to help you build your brand and grow your business.
I hope you guys have a great rest of the day or evening, which ever is applicable to you and I look forward to catching you in the next episode.
Example Customer Lifetime Value Chart