What is customer lifetime value?
Don’t just think about the first sale, think about subsequent sales. For example if your business is jewelry – perhaps you make bracelets or earrings – then think about how you can sell something else to the same customer after they’ve made their first purchase from you.
The same applies to a product that is a “consumable” – that is, a product that your customer uses all up and has to buy again and again. It is less costly to sell a product to an existing customer than it is to a new customer because you don’t have to advertise to an existing customer and you already have their email address. When you summarize the costs involved in your marketing and your subsequent conversion-to-sales metrics, you will see that there is often a high cost associated with the acquisition of each new customer. We call that the “Cost of Acquisition”. Sometimes (particularly when developing a new market or breaking into a very competitive market) this cost could even be equal to the revenue from the first sale.
Clearly it is not workable or advisable if the cost of acquiring a new customer is equal to the revenue gained from the sale! However, if there is potential to sell to that same customer over and over again, then a break even “cost of acquisition” could be workable.
Once you have that customer on board and they trust you, then there is the opportunity to sell them something else. The cost of acquiring that customer is then spread out over the lifetime of that customer – known as the “Customer Lifetime Value”.
It is important to work out the lifetime value of your customers from the beginning as this helps to inform your future sales potential as well as the amount you can afford to spend on advertising and marketing.
You could work it out like this: A customer spends $50 on his first purchase but needs to buy again in three months and again and again every three months. If he then buys four times a year, then that customer is worth $200 per year to you and over the lifetime of him being your customer (let’s say three years), his total lifetime value therefore is $600.
Sale value x number of purchases per year = lifetime customer value