When it comes to driving revenue for your business, not all customers are created equal. In fact, the majority of your revenue is driven by only about 10% of your customers. Those customers are your most valuable — and if one of them churns, your business will take a huge hit.
How can you identify those high-value customers? And once you do, how do you keep them excited about your brand without spending too much money on customer acquisition?
In this article, we’ll cover:
- How to calculate customer lifetime value (LTV) to identify your high-value customers
- How to save on customer acquisition cost (CAC) by focusing on higher-value customers instead of investing in customers who won’t bring in enough value
Let’s dive in.
What is customer lifetime value?
Customer lifetime value — often written as CLTV, CLV, or LTV — is the projected revenue that a customer will generate during their time as a customer of your business.
Your company’s average LTV, then, is the average amount of money a customer spends with you over time. LTV analysis helps businesses figure out how much a customer is worth to your brand, which in turn gives you a better understanding of how much to invest in customer acquisition and retention.
How to calculate customer lifetime value
There are a few different LTV calculations, depending on how many different variables you choose to take into consideration. To calculate LTV, you need to know these variables:
- Average customer purchase value: Divide your company’s total revenue in a time period by the number of purchases of the course of that same time period.
- Average purchase frequency: How often the average customer makes a purchase from your business.
- Average customer lifespan: How long, on average, someone remains a customer.
To calculate your customers’ average LTV, multiply the average customer purchase value x the average purchase frequency x the average customer lifespan. This gives you the revenue you can expect an average customer to generate over their customer lifespan.
Types of customer lifetime value
The LTV calculation above is defined based on the average buying behavior of customers in the past. This historical view of LTV provides limited insights on what has happened in the past based on past transactions and fails to inform customers’ future lifetime value.
Predictive LTV expands the LTV measurement, using machine learning to estimate future value at the customer level. It leverages historical buying behaviors and profiles of your customers to estimate and predict their retention rate and their future margin/revenue which is used to define each customer lifetime value. Predictive LTV helps deliver actionable intelligence based on customers’ latest buying behavior. It allows us to be proactive in our engagement with customers as they increase or decrease their purchase frequency. It also allows us to estimate the LTV of prospective customers which can be used to optimize customer acquisition efforts to drive high-quality high-value customers.
So, once you know your LTV, how do you turn that insight into lower CAC and higher retention?
How to lower CAC by focusing on high-value customers
Because LTV is an average, you’ll have customers with much lower and much higher LTVs than your calculation above. Those customers at the high end of the spectrum — the 20% of customers who make up 80% of your profits, according to the Pareto principle — are your high-value customers.
Understanding LTV and identifying your highest-value customers lets you put guardrails on how much money you spend on retention and acquisition. To achieve profitability, your customer acquisition cost should always be lower than your LTV — otherwise, you’re losing money every time you acquire new customers.
LTV analysis also lets you figure out which customers to target with customer retention efforts.
Why is customer retention so important to your bottom line?
- A 5% increase in customer retention can increase company revenue by 25-95%.
- It’s up to 25x more expensive to acquire a new customer than it is to retain an existing customer.
- U.S. companies lose $1.6 trillion annually to customers switching to a competitor.
By calculating your business’s LTV, you can easily segment your highest-value customers — the ones who spend the most with you over their customer lifespan. These customers are the ones to target with special campaigns and incentives to keep them passionate about your band.
Create loyalty programs or referral opportunities that reward these customers for supporting and spreading the word about your brand. Instead of focusing all of your spend on acquisition, or creating a broad retention plan, put the marketing budget toward retaining these customers specifically. Focusing on retention can help reduce your churn rate, keeping that top 10-20% of customers coming back for more — without spending money on low-value customers who are the most likely to churn.
Plus, once you know who your high-value customers are, you can focus your customer acquisition efforts on similar potential customers. For example, if your highest-value customers are all located in coastal cities, it makes sense to allocate your budget to targeting new customers in those demographics over others. This lowers your CAC because you’re not spending money to acquire low-value customers.
When you invest in retaining your most valuable customers and acquiring more customers like them, you can lower your churn rate — and increase your customer retention rate (aka survival rate). Plus, when you create a best-in-class customer experience for your loyal customers, they’ll be more likely to spread the word about your business and bring in additional high-value customers.
Tinuiti Approach to Increasing CLV Across Your Integrated Media Strategy
Here’s how Annica Nesty, Senior Director of Marketing Sciences at Tinuiti explains Tinuiti’s approach to increasing CLV across IMS:
Each client’s customer, marketing efforts, products, are different. It takes advanced analytics and machine learning to understand and predict preferences and behaviors. A system that makes it easy to activate those insights in ways that help brands acquire more high-value customers, accelerate loyalty within the customer base, and intervene when customers begin to veer off their expected purchase journey. When it comes to measuring your CLV, you should consider these variables for the most accurate results. All of the above is central to Tinuiti’’s offering in this space as we strive to accurately report and measure CLV.
Our first step to increase and improve CLV is to Measure and Monitor using our Mobius Apps CLV solution. When you know your CLV you can work to improve it. You can also improve CLV by segmenting your customer base into High, Medium, and Low-value segments and track their migration over time. This can help us profile segments transaction behavior, retention profile, media channel interactions and preferences (what channels and campaigns are more effective), demographics, and psychographics to name a few. These learnings are used to deliver targeted and personalized marketing communications.
This is key to reaching the right audience, with the right message at the right time. Personalization improves customer experience and strengthens brand loyalty. We also work with our clients to design and deploy marketing initiatives to motivate customers to spend more money on every transaction, increasing sales per order. We develop cross-sell and upsell strategies that focus on increasing the number of transactions per customer so we can sustainably increase sales over time.
“We work to minimize marketing cost by lowering customer acquisition costs, being smarter with your marketing dollars by investing in initiatives, and designing strategies that grow the high-value segment in your customer base.”
– Annica Nesty, Senior Director of Marketing Sciences at Tinuiti
In conclusion, CLV determines the health of your brand relationship with its customers. It is key to maintaining existing customers and optimizing new customer acquisition programs. Integrating data is key to accurately measure and assess LTV, identify key value segments, and optimize marketing programs to drive personalized engagement that increases customer loyalty to your brand.