Customer Lifetime Value: Three examples
A Tale of 3 Lifetimes (Values)…
We have theorized about customer Lifetime Value (LTV) so far this week, but now it’s time for some examples! Let’s talk about how different kinds of businesses calculate their LTV and the hidden traps that make it more difficult than it seems.
Retail / E-Commerce
For a retail or e-commerce business, the easiest way to compute LTV is to add up all the purchases a customer makes in your store or on your site. Credit cards make this very easy to do since they include a lot of information you can use to identify customers across transactions!
Wait, what’s the catch? Rate of returns. If you don’t take the rate of returns into account you will overestimate your LTV since some of those purchases will be reversed. Luckily, this is easy to handle. If your rate of returns is 5%, you simply discount your LTV by 5%.
When you make most of your money from online advertising, it is harder to calculate LTV since it’s hard to know exactly how many (and which) ads a specific user sees. Instead, you can take the number of ad impressions per user session, multiply it by the number of user sessions in their lifetime and multiply that by the value per impression (typically the eCPM, which is the cost per 1,000 impressions). This gives you an estimate of LTV based on averages across those three vectors.
Wait, what’s the catch? Changing eCPMs. The revenue from ad impressions change constantly so your eCPMs are rarely constant for the entire lifetime of a customer. You need to either determine an average eCPM over the customer lifetime or compute the LTV for different segments of the customer’s lifetime separately.
Subscription businesses are, in theory, the easiest to calculate LTV. You simply multiply the amount the customer pays per month of the subscription (cost) by the number of months in the customer life time. Simple, right?
Wait, what’s the catch? Upselling. If you have different subscription tiers and customers move between them over the course of their lifetime, their value is changing. You can either calculate blended revenue per month across the tiers or compute the lifetime value of customers on each tier separately.
I hope that makes it more concrete for you! If your business is not in one of the above verticals and you need help calculating your LTV just drop me a line.
Tomorrow we tackle the last topic in our exploration of LTV: How do you handle the fact that your LTV changes all the time?
Quote of the Day: “What’s the catch?” – Attributed to PT Barnum in 1855, although there is no evidence he uttered this particular phrase. Prior to that, “catch” only referred to fishing.