question
Ziyi Wu
Lecture-CustomerLifetimeValueCLVAnalysis3.pptxIBM 3202 Lecture Customer Lifetime Value (CLV) Analysis
Tarique Hossain, Ph.D.
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What is Customer Lifetime Value (CLV) Analysis
How to measure or calculate CLV
Why is CLV important to business?
How much is a customer costing his/her business?
Learning Objectives
These are the learning objectives for this lecture.
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Customer Lifetime Value (CLV) analysis looks at how valuable a customer is to the company over the lifespan of a customer, as contrasted with the value of a single transaction.
Basically, the CLV analysis combines financial principles to sales or customer experience program.
Specifically, CLV should tell you how much should be a financially viable acquisition cost spent to convert a prospect into a customer.
1. What is CLV Analysis
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Customer Lifetime Value (CLV) analysis helps not only by measuring the long term value of a customer, it can also suggest how we can increase the customer value (for example, by upselling to customers).
The key idea is that is costs much less to retain existing customers than having to replace customers who fled or acquiring new ones for growth.
A properly calculated CLV analysis should prevent a business from recruiting customers with lavish gifts, only to find out the value of business derived from them did not materialize—serving a financial blow to the company.
1. What is CLV Analysis, continued (1)
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Data required for CLV calculation
Initial acquisition cost (cost of marketing, advertising, sales staff time/commission etc.)
Value a customer creates at each touchpoint
A reliable estimate of customer retention rate (percentage of customer staying each period, aka loyalty rate)
Integrate records to track the customer’s journey. For example, a customer might have migrated to an upgraded or downsized package over time.
Combine the data in annual or quarterly (monthly data is rare) intervals
2. How to measure or calculate CLV
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Formula for CLV calculation
Simplest formula:
Customer revenue minus the cost of recruiting and serving the customer = CLV
CLV should be calculated for each interval (annual, quarterly, etc.)
The flow of profit should be discounted back to the present because money accruing in future does not have the same value as money coming in now.
2. How to measure or calculate CLV, continued (1)
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A simple CLV calculation
Let’s assume the following:
Profit generated by the customer each year = $1,000
Number of years that they are a customer of the brand = 5 years
Cost to acquire the customer = $2,000
The customer lifetime value of this customer would be:
$1,000 (annual profit from the customer) X
5 (number of years that they are a customer) less
$2,000 (acquisition cost) = $3,000 = CLV.
That is, $1,000 X 5 – $2,000 = $3,000.
Note, this calculation is too simplistic. It assumes 100% retention rate (i.e., the customer will stay with the firm for the time frame for sure).
See the attached Excel Spreadsheet for a more complex calculation.
2. How to measure or calculate CLV, continued (2)
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Homework (similar questions will be on the final):
Let’s assume the following:
Profit generated by the customer each year = $1,000
Number of years that they are a customer of the brand = 5 years
Cost to acquire the customer = $2,000
Customer retention rate is 90%
No customer cost.
Calculate the SIMPLE customer lifetime value of this customer. Hint: you can break the cash flow by years and then add them up.
Calculate the DISCOUNTED customer lifetime value (assume 10% discount rate)
2. How to measure or calculate CLV, continued (3)
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Homework SOLUTION (similar questions will be on the final):
Calculate the SIMPLE customer lifetime value of this customer. Answer: $2,095.10
Calculate the DISCOUNTED customer lifetime value (assume 10% discount rate). Answer: $1,666.76
You should replicate this spreadsheet to be able to fully understand.
2. How to measure or calculate CLV, continued (3)
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2. How to measure or calculate CLV, continued (2)
(see the attached spreadsheet in Blackboard)
These are the learning objectives for this chapter.
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Ultimately, you don’t need to get bogged down in complex calculations – you just need to be mindful of the value that a customer provides over their lifetime relationship with you.
By understanding the customer experience and measuring feedback at all key touchpoints, you can start to understand the key drivers of CLV.
It’s a great metric when you have a multi-year relationship with a customer – say for a paid TV subscription or mobile phone contract.
And it’s good for spotting the early signs of attrition – say, for example, you see spend dropping off after the first year as they use the subscription less and less.
3. Why is CLV important to business?
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There are costs to serve a customer over time. For example, if you go to a teller of your bank, the bank has a salary to pay the teller that should be spread out over how many customers served.
If the cost of serving an existing customer becomes too high, you may be making a loss despite their seemingly high CLV.
So here is our balancing act: Consider our paid TV subscription, your cost to serve might be higher in the first year of a contract but gradually drop off the longer they stay with you. Thus, if your renewal rates drop, your average cost to serve is likely to rise and cause a drop in profitability.
Understanding these numbers over time and being able to track them side by side is the only way to get a true understanding not only of customer spend and loyalty but also what it’s contributing to the business’s bottom line.
4. How much is a customer costing his/her business?
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CLV Calculation is not very difficult, but a recent study reported that only 42% of companies surveyed reported they are able to measure CLV.
Why is CLV reporting a challenge for so many companies?
They operate in disconnected silos which makes getting integrated data very difficult
Companies may not have dedicated analysts to measure and track CLV. In other words, management commitment may be lacking.
Questions? Comments?
Conclusions
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5. Reference
What is Customer Lifetime Value (CLV) and How to Measure It, Qualtrics.com
https ://www.qualtrics.com/experience-management/customer/customer-lifetime-value /
These are the learning objectives for this chapter.
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