Market to Profitable Customers with Customer Lifetime Value - dummies

Market to Profitable Customers with Customer Lifetime Value

By Jeff Sauro

Identifying the most profitable customer segments can be done in a sound, data-driven manner using the CLV. However, even increasing the number of your “good” customers may not be worth an expensive marketing campaign or costly incentives. To find out whether your efforts will pay off in the future, calculate your marketing campaign (or customer acquisition efforts) return on investment (ROI).

The CLV can be used to evaluate the success of a marketing campaign. Looking back at the money spent for customer acquisition during a certain time period and dividing by the number of customers acquired during that time, you obtain the average amount of money spent to acquire each individual new customer. You then can calculate the ROI of your marketing campaign to evaluate whether it was a financial success or failure.

To calculate the ROI of your marketing campaign to acquire new customers, use the following equation:

ROI = (CLV – Marketing cost per customer acquired) / Marketing cost per customer acquired

For example, if the sandwich shop spends $5000 on advertising and finds that it obtains 50 new customers, the cost to acquire a new customer is $100. The ROI of the advertising campaign will depend on the type of customer (frequent or infrequent) that’s gained.

For example, using the CLV of $5,242 for the frequent customers from the previous example, the ROI of this campaign is:

($5,242 − $100) / $100 = $51

For every $1 spent on advertising, $51 is gained over the frequent customer lifetime.

However, if the advertising campaign attracts infrequent customers who may only purchase $6 once a month over 5 years, generating lifetime revenue of $360 and a CLV of $75.60 (after factoring in the profit margin of 21%). The ROI is then:

($75.60 − $100) / $100 = $−0.24

In other words, if the advertising campaign attracts infrequent customers, over a 5 year period, the campaign will result in a loss of 24 cents for every dollar spent. Not a good investment at all.

A negative ROI means that the marketing campaign was a money loser. CLV thus provides crucial information about just how much should be spent on a marketing campaign or how much you can afford to lose by offering incentives.

Just like acquiring new customers by creating attractive incentives and marketing specifically to them, increasing your existing customers’ CLV by boosting their satisfaction helps your business grow:

  • A higher satisfaction rate increases the frequency of purchases, the amount of revenue generated each time, and your customer lifetime. All those factors contribute to a higher CLV.

  • Satisfied and loyal customers are more likely to recommend your products or services to their friends and colleagues, thus enlarging your customer base.

  • The cost of acquisition of new customers is often much higher than what needs to be spent to retain existing customers and increase their purchases.

  • Customers who are highly satisfied provide free word-of-mouth marketing!