How Customer Lifetime Value Analysis Assists Marketers

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Acquiring high lifetime value customers is desirable, but it can sometimes be difficult to identify which customers offer your business the highest lifetime value. New businesses don’t have established buying patterns to use for analysis, and a business with a disparate product family has many customer touch points and complex discounting structures, which can hinder customer lifetime value analysis. Finding a way to identify your highest lifetime value customers is as important to your business as calculating your customer acquisition cost.

Identifying High Lifetime Value Customers

Most businesses would agree that acquiring loyal and generous customers is one of their primary goals. Few sound business models exist where the goal is to accumulate a disloyal clientele. Businesses strive to find customers who will buy almost exclusively from them instead of the competition, who buy a lot and who buy at a good margin. These customers are the ones customer acquisition strategies are targeting, and companies need to ensure they can be attracted profitably.

I have been speaking recently with clients who say that customer lifetime value analysis presents a huge challenge for them, because of the complexities of their businesses. If you have a well-established product offering – say, a retail bicycle store or a coffee shop – and you have a lot of data about your customer base that you’ve been acquiring religiously over a number of years, it’s not too difficult to determine who your most loyal customers are. This involves:

  • Learning how much those customers spend, and on which products
  • Understanding how often they purchase replacement products
  • Discovering how frequently they make purchases from your competition

Smart business owners in retail spaces now have the technology at their disposal to examine these key metrics in near real-time. Calculating a given customer’s commitment to your business over the long term is possible, and it’s not hard to build a customer LTV model that will accurately predict who to market to and what to do to keep customers happy. If your business is new and you don’t have those metrics or comparable data available, you’ll need to run some business models that allow you to control for variables like customer lifetime value.

Smart businesses use key metrics to identify high lifetime value customers.

Customer Lifetime Value Analysis Must Also Consider CAC

The larger your sales force, and the less standardized your pricing, the greater challenge you will face in determining whether or not a particular customer will provide long term profitability for your business.

Let’s say you have a very large bicycle shop, and a sales force highly incentivized to move product off the floor. With a high degree of flexibility over discounts the sales team can offer, your most loyal customers may come back to buy a new bike from you every four or five years, simply because they know they’ll get a sizable discount compared to what they’d find if they ventured off to a different bike store where they might not enjoy those “friendly” discounts.

This customer may look like they have a high lifetime value, simply because of the number of bicycles they purchase over the years. But they may actually be unprofitable over time, especially if they eschew your high-margin add-ons like bicycle clothing, accessories and protein bars.

To perform customer lifetime value analysis in these circumstances, you simply need to sort out your point of sale system and sales analytics. This will allow you to spot customers who are not profitable over time, and train your sales team accordingly to avoid giving away the farm. The challenge is to determine whether or not you are acquiring your high value customers in a profitable manner:

  • Low Customer Lifetime Profitability: You acquire customers at a low cost, but they are not profitable over the long term.
  • High Customer Acquisition Cost: You acquire high LTV customers who loyally purchase products at a profitable margin, but you can’t acquire them in a profitable way.

In both cases, your customer lifetime value analysis must include profitability. Here are some examples:

Scenario 1: Low Customer Lifetime Profitability

Imagine you are attracting business through word-of-mouth referrals. Let’s say your biggest spenders – those customers we discussed above who buy several thousands of dollars worth of bicycles from you every few years at a steep discount – refer their like-minded friends to the store. Those referrals come at a very low cost to you (even if you have an automated referral marketing program that pays a referral reward each time, the fees are still minimal), but the customers you’re keeping and the customers they are attracting are not profitable to you in the long term. In this case, your referral marketing program is not profitable because it’s not attracting the right kind of new customers.

These are not the customers you're looking for.
These are not the customers you’re looking for.

Scenario 2: High Customer Acquisition Cost

Next scenario. Say you know exactly the type of customer to attract to your bicycle shop – the ones that come for the great bikes, and stay for the great service. These customers want to shop with you because you present your products well, your staff is knowledgeable and friendly, and your sales tactics are low pressure. These customers are willing to pay a higher price to get a better service – discounting is not needed in this case.

Now you’ve got high lifetime value customers. But you’re spending thousands of dollars on high profile marketing and advertising to attract these buyers to your shop. Your customer acquisition costs are outstripping the margins you’re getting from these high LTV customers.

These are definitely the customers you're looking for, but it's costing you too much to acquire them.
These are definitely the customers you’re looking for, but it’s costing you too much to acquire them.

Thinking back to the clients I’ve been speaking to, the challenges they face in customer lifetime value analysis are further aggravated by the fact that their businesses are much more complex than standard retail operations.

Put yourself in the shoes of a banker for a moment:

You want to attract members to your branches who will invest their money with you; buyers who will bring their retirement savings accounts, mortgage business, savings, and retail checking business with all its transaction fees. But even the most well heeled clients can grind your financial advisors on rates. Getting half a point negotiated off a management fee for a $1,000,000 portfolio means $5,000 less annual revenue from that customer and, ultimately, that money is gone from your marketing budget and your marketing program profitability.

So what kind of customers are we looking for? Here’s the sweet spot:

Sweet Spot Customer = A very low customer acquisition cost + High and profitable lifetime customer value

There’s no question that using refer-a-friend software and word of mouth are the lowest cost methods to attract new customers, but these are only effective marketing strategies when you are targeting referrers who have a high propensity to refer high lifetime value customers. Customer lifetime value analysis is vital to ensure you attract customers who will continue to purchase high margin products from your business on an ongoing basis, cementing the success of your model.

The sweet spot customer has a very low aquisition cost while offering a high, profitable lifetime customer value.

Want to learn more about how customer lifetime value analysis can help ensure the viability of your referral marketing program? At Buyapowa, we’re always here to help. Contact us today, or learn more about how your business can benefit from referral marketing by downloading our latest eBook ‘Power Your eCommerce Business with Referral Marketing’.

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