What is Customer Lifetime Value (CLV or LTV)?

Depending on the data you have at your disposal, either using pre-existing customer information or assessing current circumstances in order to predict future customer behavior, there are 2 models which can result in different outcomes:

Historical CLV model

This model predicts the customer lifetime value based on the average order value and relies on past data, without taking into consideration whether the existing customer will continue buying from the company or not.

This model is useful for businesses whose customers interact with their products or services over a certain period of time (for example a shop that sells products for newborns or pregnant women)

The disadvantage of this model is that each customer journey is different; active customers which are the most valuable from a historical CLV model point of view might become inactive and reactivate in the future. This kind of scenario will impact the quality of your data.

Predictive CLV model

This model identifies the future buying behavior of new and current customers by using machine learning or regression. There are several formulas that can be used in this case:

Customer lifetime value = AOV (average order value of the purchase) x no. of times a customer will purchase every year x average length of a customer relationship (in years).

Customer lifetime value = Customer Value x Average Customer Lifespan.

• Customer Value = AOV x Average purchase frequency rate (number of purchases divided by the number of unique customers who purchased in a given period of time)
• Average Customer Lifespan = Sum of Customer Lifespans (average nr. of years a customer continues purchasing your products)/ no. of customers

If you don’t have the time and resources to do all the calculations yourself, there are various automated tools that collect this data directly from your website and translate those numbers into valuable metrics, which you can further use to perfect your strategy.

Calculating the CLV is important as it helps you make informed decisions on your investments, such as continuing to acquire new customers or further investing in the existing ones; determining the most profitable type of customers, the products that will bring the highest profitability, etc.

By understanding your CLV, you can tailor your business strategy around retaining loyal customers, rather than constantly investing in attracting new ones. So, the higher your CLV, the lower the cost of customer acquisition will be and the higher your profits will be.

Here are some recommendations to increase how much and how long customers buy from you:

• Making it easy for customers to return purchased products, in terms of costs and procedures involved.
• Offering discounts in special situations in order to retain current customers.
• Using NPS (net promoter score) surveys to measure customer satisfaction.
• Providing clear payment and delivery policies, in order to set clear expectations.
• Developing loyalty programs, which ensure that your customers stay engaged, come back regularly, and build long-lasting relationships.
• Creating upsell opportunities to increase the average value of a shopping cart.
• Maintaining constant communication through personalized email marketing campaigns.
• Improving your SLAs (service-level agreement - the time of response to customer inquiries).