How do you measure your business’s success? Is it through metrics such as conversion rate, number of sales, ROI, average order value? Do you know how much you spend to acquire each of your clients and what the return of that is? Even though these metrics are very important, they do not have the necessary reach to foresee farther into your company’s future. Lifetime Value (LTV, or the value of a client over their lifetime) is one of the most important factors to determine your present and future success, because it indicates how much each client really costs and is worth to you.
What is Lifetime Value or LTV? You know that story that it is much easier to sell to someone who has already bought in your store? Lifetime Value helps calculate exactly how much it is worth investing to get clients, showing how much of that will return to you over time. That way you will understand which audience you should focus your efforts on and why. A good analysis of a client’s life cycle will help you answer questions such as:
- What net profit does my client deliver on average per purchase?
- How many purchases do they make over the course of their relationship with my company?
- How long do they remain an active client of my products?
Why and how to calculate LTV? One of the things that become clearest when doing the LTV calculation is that it is very important to strengthen relationships with your audience, because each person costs a lot and those most engaged with your brand are worth a lot. It is essential to focus efforts on the 1% of clients who are worth many times more than all the rest. Despite being extremely useful, LTV is a complex number to reach. That is because some of your clients may make small purchases every week, while others may make large purchases once a year, besides the countless other options in between. How can you foresee how your client will behave over a period of time? LTV varies from company to company according to the average order value of its products, the way the CRM is conducted, the products the company offers, how it interacts with clients, the offers, and other characteristics. For this same reason, there are several ways to do this metric’s calculation. However, its essence is the present value of a client’s future earnings with the costs involved in the period subtracted from those earnings. CLV = Average Number of Transactions in the Period × Average Order Value × Client’s Total Life Cycle × Gross Margin Explaining each point:
- Average number of transactions in the period: quantity of orders made in the selected period (normally 1 year).
- Average order value: average value a client contributes to the company in the same period of time.
- Client’s total life cycle: time in years the client remains active in the relationship with the company according to consumers’ behavior.
- Gross Margin: the percentage value of your margin after deducting all transaction costs (acquisition cost, production, credit card, tax…).
For example: if your clients make 5 purchases during a year, with an average order value of R$50.00, a life cycle of 2 years and 40% margin, the calculation would be: CLV = 5 × 50 × 2 × 0.40 = R$200.00 Each sector and each type of company has an ideal value for the consumer’s lifetime. Check with competitors in your market what your market’s average is and understand how to foresee your business’s future without guessing and without needing a crystal ball. Beyond understanding how much your clients are worth, another essential point is understanding whether your audience is satisfied with your products and services. Who are your brand’s promoters? NPS or Net Promoter Score can indicate that to you.
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