Unless you sell a single, one-time-use-only product or service, it’s in your company’s best interest to cultivate customer loyalty. Long-time customers may:
- Make more purchases consistently over time
- Refer other customers to a business
- Impact company sentiment through brand advocacy on channels such as social media
- Cost less to retain and build relationships with than new customers
According to Ali Cudby, a customer retention researcher and author, it costs six-to-seven-times more to acquire a new customer than it does to retain current customers. Cudby notes that a 5% increase in retention can lead to improved profitability of 25% or more, and potentially a 95% increase in profits.
Learn what customer lifetime value is, why it matters and how to use it to promote customer loyalty and potentially increase profits.
Identifying Target Customers
One way a business can identify target customers on which to focus is to estimate customer lifetime value. This business metric can drive everything from a company’s marketing strategy, to sales techniques, to product and service development.
What Is Customer Lifetime Value?
Put simply, customer lifetime value represents how much a customer is expected to spend with a company from their first to last purchase with the business.
For example, say the average customer with a skincare and beauty brand spends an average of $250 a year with the brand beginning when they’re around 25 years old. They’re expected to purchase regularly from the brand until they’re around 60 years old. That means, the average customer would spend $8,750 with that brand over their lifetime.
A customer who subscribes to the company’s email newsletter, for example, may spend $600 a year with the brand, which notably increases their customer lifetime value to $21,000.
A customer who has a bad experience with product shipment, for example, may abandon the brand a year into spending with them, which diminishes their customer lifetime value.
Factors that can impact customer lifetime value
Factors that can impact a customer’s lifetime value, include how:
- Engaged a customer is with the brand
- Much value of the products they regularly purchase from the brand
- Frequently they purchase
Companies that strategize how to increase the customer lifetime value of their most valuable customers and find ways to turn casual customers into more valuable customers, can increase their revenue.
Why Is Customer Lifetime Value Important?
Customer lifetime value matters because it helps businesses better understand their current customer base and who they should target to maximize profits.
According to research by the Wharton School’s Professor of Marketing David Reibstein, the probability of selling to an existing customer is up to 14 times higher than the likelihood of selling to a new customer.
Applying Best Practices
Because it’s more difficult and expensive to gain a new customer compared to keeping an existing customer, companies that focus on increasing the customer lifetime value of each one of their customers can boost their results while lowering costs.
When a business understands the customer lifetime value of various personas within their customer base, they can apply best practices from the most valuable group to other groups, as well as to new customers.
How to Estimate the Value of a Single Customer
A basic customer lifetime value formula is:
Customer lifetime value = Customer value x average customer lifespan
For the customer value and average customer lifespan components, you may want to calculate averages for each one. For example, out of a customer pool of 100 customers, you may find the average value is $100/year with an average customer lifespan of 10 years.
Looking at the average customer value
You could get more granular with your calculations, but looking at the average customer value for those who spend 10 years with a company, versus those who spend 15 years with a company.
To illustrate, referencing the skincare company example above, the business might segment their customer base into various personas that have various customer lifetime values.
For example, customers who start buying from the company:
- In their 20s may make more of their early purchases in the less expensive makeup category for their first decade with the company before adding products to their shopping cart.
- In their 40s may be more apt to purchase more expensive skincare items at the beginning of their customer journey.
Loyalty rewards programs
A business may also compare the customer lifetime value of people who are members of a brand’s loyalty rewards program versus those who are not. Using customer lifetime value figures, the company can strategize how to get more non-members into the club, and how to provide more value to club members to keep them engaged.
How you determine various customer lifetime values will depend on the variety within your customer base. That’s why it’s helpful to look at different buyer personas, so you can get a clearer view of the customer lifetime value of each one. Then, you can strategize how to increase that value across the business.
How to Increase Customer Lifetime Value
There are several ways to increase the customer lifetime value across a company’s customer base. These include:
- Increase the average purchase value. This can be done by promoting products that are relevant to a persona at checkout, sending offers for new or limited-edition items, suggestive selling in stores, and other sales and marketing methods. A company may also decide to invest in new service or product development for other products that provide value to engaged customers.
- Increase the average purchase frequency rate. Another way to boost customer lifetime value is to motivate existing customers to purchase more frequently. For a coffee shop, this might look like opening more locations in a high-sales area, or extending the open-close hours for each location. For an ecommerce brand, it might result from sending more frequent email communications or releasing more offer codes on social media.
- Increase the value of products and services sold. It’s easier to sell higher-value products and services to people who already trust in your brand. You can increase the average purchase value by creating products and services that are more valuable and, thus, come with a higher price tag.
- Increase the average customer lifespan. Another strategy to keep customers buying from you over a longer period of time is to understand when customers tend to stop purchasing and for what reason. For example, a clothing company that’s marketed to those in their 20s may see that customers quit buying from them in their 30s. The brand may explore creating a new fashion line or brand that’s geared toward customers in this age group.
Map the customer journey for each persona
These strategies will only work if you create strong brand-consumer relationships to begin with. That’s why it’s important to map out the customer journey for each persona, so you can identify pain points along the journey and offer proactive service every step of the way. This helps prevent customer drop-off, so customers stay loyal to the brand.
Learn More About Managing the Value of Customer Relationships
If digital marketing topics like customer lifetime value interest you, learn more in the Managing the Value of Customer Relationships course from Wharton School, part of the Digital Marketing Certificate Program. The course teaches how to make informed decisions for customer-centric strategies and how to choose the right metrics to guide them.