Do you pay attention to customer lifetime value (CLV) as a key concept and measure of overall organizational health and profitability? If CLV is not currently a priority, it may be time to reassess your approach. CLV—which involves optimizing individual customer interactions to drive retention rates, encourage repeat purchases, reduce costs and increase profits—could be the lifeblood of your small business.
The Value of Increasing CLV
Before you can take on the challenge of optimizing individual interactions, you may want to understand why it matters.
CLV can allow businesses to focus on immediate issues while keeping long-term performance and health in mind. It’s a strategic metric that may tell you how much you can and should reasonably spend on each customer to remain profitable.
As Jim Lenskold, president of Lenskold Group, writes in his blog, “Customer lifetime value represents the net present value of future cash flow, which consists of the profit margins from the stream of purchases over time, less the costs for managing the relationship and delivering that stream of purchases.” Basically, CLV can be one of the best indicators of your business's future profitability.
—Larry Alton, writer
Tips for Increasing CLV
Despite the importance of CLV, many small-business owners don’t have a firm understanding of how to increase or calculate it. Here are some tips for increasing CLV.
- Go the extra mile. You might show customers you care by going above and beyond. Find ways to differentiate your service by doing things that none of your competitors have even thought about doing. Whether it's providing complimentary follow-up services or being personally on-call for customers, are there services or perks you could offer that surpass the call of duty in your industry?
- Focus on the up-sell and cross-sell. Your existing customers may be prime candidates for up-selling and cross-selling. Instead of focusing on adding new customers, you may want to shift your mindset to increasing the net profitability of each of your existing customers' transactions. You might consider expanding your business model to include products that are complimentary to your core offerings and then prompting customers to add them to an existing purchase order. For example, if you sell acrylic saltwater aquariums, you might add a line of aquarium-safe cleaning supplies to your brand. As an e-commerce business, you might include an automated prompt within the virtual shopping cart asking customers if they’re interested in adding this to their existing order. In a physical retail store, you might place cleaning supplies in the checkout line.
- Raise retention rates. Customer retention rate is a key component of CLV. To raise these rates, you consider focusing on quality and service over price. Building a live chat into your website can help keep customers engaged and allows you to guide them through the purchase process. From there, you might collect feedback through an automated email solution and provide dedicated account managers with this information for follow-up conversations.
- Automate internal processes. One of the biggest driving factors of CLV may not even be directly related to the process. Ask a company what keeps them from maintaining better customer relationships, and their response may include something along the lines of "we don’t have enough time," or "we’re too busy with daily tasks and processes." Solving that problem might lead to better CLV and more profitable customers. Automating internal processes and making customer interactions a priority may help. Workflow management software may help you improve business processes, trace projects from concept to implementation, run comprehensive tests and more, hopefully leaving you more time to focus on good customer service, up-selling, cross-selling and raising retention rates.
How to Accurately Monitor CLV
There’s no exact science to accurately calculating and monitoring CLV, but various options and equations do exist. For increased accuracy, it may be a good idea to use multiple equations and average the results to find what's known as the Lifetime Value of a customer, or the LTV. For the purposes of the below equations, the constants are: T= the average customer lifespan, R= customer retention rate, A= average customer value per week, I= the rate of discount, and M= average gross margin per customer lifespan.
- The simple LTV equation looks like this: 52(A)x(T) = LTV
- The traditional LTV equation looks like this: M[R/(1+I-R)] = LTV
Add the results from these two equations and divide the total number by two to get your LTV. This suggests your break-even point for how much you can realistically spend on any given customer.
Has your business failed to recognize the significance of increasing CLV for future cash flow and profitability? If so, it may be critical to reassess your customer interaction strategies and commit to enhancing the value of every customer you have.
Read more articles on customer service.
This article was originally published on March 27, 2015.