CUSTOMER LIFETIME VALUE: DEFINITION, CALCULATION AND OPTIMIZATION

The Customer Lifetime Value (CLV) is a metric that allows you to know the average revenue generated by your customers. Why and how to calculate it? And above all, how to increase it? Follow the guide!
You know the drill: a visitor enters your sales tunnel, becomes a prospect and then a customer. Sometimes they even become loyal customers. In any case, they generate revenue throughout their relationship with your company.

But how much exactly? What is their total value?

The answer to this question has a name: Customer Lifetime Value (CLV)!

Its role is to help you make medium and long-term financial forecasts. The objective is to better manage your budgets and resources. Are you interested? We reveal everything you need to know about Customer Lifetime Value!

Definition of Customer Lifetime Value

The Customer Lifetime Value (sometimes called CLV for speed!) indicates the total revenue that a company can expect from a customer account.

In other words: it is a prediction of the average revenue brought by a buyer… until he stops doing business with you. Hard to estimate? Yes and no.

Because you can’t guess how long the relationship will last. Some customers stay a few months, others will be loyal for years. It depends on your industry and the nature of your offerings. In B2B, the customer lifetime is often longer than in B2C, especially for companies selling complex tools or solutions.

Nevertheless, there are (almost) simple formulas to apply to calculate this indicator…

How to calculate the Customer Lifetime Value?
There are two ways to calculate Customer Lifetime Value: in terms of revenue and in terms of profit.

Calculating CLV in terms of turnover
With this formula, we reason purely in terms of turnover. How much turnover does a customer generate?

To calculate it, you will need to know 4 other indicators beforehand: the retention rate, the customer lifetime, the average basket and the purchase frequency.

Retention rate
This is the percentage of loyal customers who renew their contract from one year to the next. Take into account your renewal frequency to calculate this rate.

For example, if your contracts are signed annually, compare the years 2020 and 2021. What percentage of customers to re-sign in 2021?

If you have had 70 contract renewals out of 100 customers, your retention rate is 70%.

Customer lifetime
On average, how many years (or months, quarters, semesters…) do your customers stay with you? To find out, apply this formula:

1 / (1-Retention rate)

In our example, it will be :

1 / (1-0,70) = 3.33

The customer lifetime is about 3 years.

The average basket
The average basket determines the amount of purchases, on average, per transaction. It is calculated as follows

Sales / Total number of orders

If you have made 650 000€ in sales with a total of 175 orders, the average basket is :

650 000 / 175 = 3 714€

Purchase frequency
The purchase frequency highlights the recurrence with which customers buy from your company. It is calculated as follows

Total number of orders / Total number of unique customers

If we follow our example, this gives :

175 (orders) / 100 (unique customers) = 1.75

This means that some customers renew their purchases during the year, or add new features to the service/product.

So how do you calculate the Customer Lifetime Value in terms of revenue?
Here we go! You can now calculate the average Customer Lifetime Value of your buyers with this formula:

CLV = (Average basket * Purchase frequency) * Customer Lifetime

That is, in our example:

(3 714 * 1.75) * 3 = 19 498.5 €

A customer brings, on average, 19 498.5 € of turnover to the company.

Calculate CLV in terms of profit

If you want to get a more accurate value, you will need to subtract customer acquisition costs and retention costs. The objective is to identify the profit generated by each buyer.

You will need to add these two indicators to the CLV formula:

Customer acquisition cost
Budget spent on prospecting and marketing campaigns / Volume of new customers

The cost of customer retention
(Cost of retention campaigns + Cost of after sales service) / Volume of customers

The CLV formula in terms of profit is this:
[ (Average basket * Purchase frequency)* Lifetime ] – [ (Customer acquisition cost + Customer retention cost) * Lifetime ]

Let’s go back to the example above, specifying that the company has spent :

35,000 € in marketing campaigns
15,000 in customer relations
Let’s also remember that it has a portfolio of 100 customers, including 30 new buyers.

We obtain :

Customer acquisition cost: 35,000 / 30 = €1,166
Cost of customer retention: 15,000 / 100 = 150€.
We can now apply the CLV formula in terms of profit:

[ (3 714 * 1.75) * 3 ] – [ (1 166 + 150) * 3 ] = 15 550.5€

The profit generated by a customer, on average, is 15 550.5 €.

Calculate CLV per buyer
The previous formulas allow you to establish an average on your current customer portfolio. With a marketing automation solution, you can apply the CLV formula in terms of profit for each of your customers.

The interest? Identify buyers with above-average values to better target your marketing campaigns (more on that later!).

Indeed, collecting data via an automated tool helps you to :

identify the entry and contact points of each customer: in other words, the campaign that led to their acquisition
Understand each customer’s journey and measure the costs required to convert / retain them
Obtain the revenues generated at each contact point
Add up the customer’s purchases over a given period
Subtract the customer acquisition and retention costs spent during the customer lifecycle.
With this information, you can apply the following formula:

Customer Revenue – (Acquisition Costs + Customer Relationship Costs)

Let’s take 2 examples:

Mr. X spent $17,500 with your company, thanks to acquisition and retention campaigns that cost $1,800.

Mr X’s CLV is 15 700€. This is slightly higher than the average.

Mrs. Y spent €18,600 with your company. But her buying cycle was much longer and required marketing and after-sales expenses of €3,200.

Mrs Y’s CLV = 15 400€. Here, it’s slightly lower than the average.

Why is Customer Lifetime Value a key indicator?
A Criteo study reveals that only 34% of marketers surveyed are “fully aware of the term and its connotations”. Only 24% of them believe that their company effectively monitors Customer Lifetime Value.

Yet CLV remains a fundamental indicator. We explain why:

CLV helps segment buyers by value
81% of marketers say tracking CLV drives sales.

By calculating CLV per buyer, you can improve your marketing campaigns, without affecting the budget. By increasing communication with the most profitable customers to increase their lifetime, and sending incentive offers to lower value buyers, for example.

CLV helps drive the customer acquisition budget
Thanks to this indicator, you will quickly know the weight of your acquisition campaigns on the profits generated by customers.

Sometimes the acquisition cost is higher than the profit generated by the first purchase… This anomaly hinders the profitability of your activity and must be corrected quickly.

CLV reinforces customer loyalty
Just as this indicator gives you an idea of the ratio of acquisition cost to customer lifetime value, it helps you measure your retention efforts. And you know the saying: it is often less expensive to retain a customer than to convince a prospect!

The objective is to better manage the budget by perhaps readjusting customer relationship actions to encourage buyers to spend more, longer.

The CLV is a key indicator of the company’s health
CLV provides you with essential data for forecasting over several months.

You know how fast your business is growing and what the potential profits will be over the next few months or even years. This information is invaluable for steering your future investments.

The CLV encourages repeat sales
Encouraging repeat purchases is the lifeblood of many companies. To be profitable, they rely on a high renewal rate of their consumers. This is the case in the technology, restaurant and fashion industries, for example.

With the CLV, these organizations verify the relevance of their strategies in achieving this objective of constant renewal.

5 tips to increase your Customer Lifetime Value
The probability of selling to an existing customer is between 60% and 70%. For a new customer, it decreases significantly and is between 5 and 20%.

And that’s not all! Existing customers are 50% more likely to try your company’s new product. They’re also more likely to spend more… So you might as well put your efforts into increasing CLV, right?

Here are 5 tips to do just that:

#1 – Leverage first-party data
A quick reminder, if necessary: first-party data refers to information directly collected by your company on customers and prospects. This is declarative information (first name, last name, emails, position held…) and behavioral information (actions performed on the website or application).

This data is important to improve content personalization and recommendations, activate different audiences and refine upselling and cross-selling strategies.

It also helps you improve the user experience. A personalized user experience significantly increases revenue and value.

To increase your CLV, consider improving your data collection and accuracy. The more you know about your prospects and customers, the more relevant your campaigns will be.

#2 – Check in with your customers regularly
Even if they don’t directly ask for help, your customers sometimes have difficulties with your product or service. By regularly contacting them, you can anticipate possible dissatisfactions, while improving the customer relationship.

To do this, you can :

Call your best customers to check up on them: an effective strategy in B2B, where a close relationship is particularly appreciated.
Launch satisfaction surveys by email.
Publish surveys on social networks.
Send tutorials and usage ideas by email (but also publish them on social networks) to support your customers on a daily basis.

#3 – Improve the value of the average basket
There are several techniques to increase the average order value. By encouraging your customers to upsell or cross-sell, you are bound to improve the Customer Lifetime Value.

Some good practices to apply:

Add personalized product recommendations on the site, based on customer behavior.
Send newsletters containing product or service recommendations based on the customer’s purchase or browsing history.
Trigger product recommendations, based on additions to the shopping cart, directly on the site.
Create bundles with attractive discounts.
Offer additional services: insurance, extended warranty, training or personalized support, express delivery…