How Knowing Your Lifetime Customer Value Can Boost Your Small Business

In marketing, this is the golden number: Lifetime Customer Value (LCV). Yes, very, very few businesses know what their LCV is.

Knowing your LCV can enable you to be extremely competitive, it can allow you to take very good calculated risks on your marketing, the kinds of calculated risks that allow for fast growth.

What is LCV? It is an educated estimation of the net profit attributed to the entire future relationship with your average customer.

On average, how much profit do you get over the lifetime of a single customer? That number is your LCV. Knowing this number will let you know exactly how much you can spend on acquiring new customers without going at a loss, and that will enable you to confidently spend on advertising, knowing it will always return a profit, in the end.

How do you find out your LCV?

First, you investigate and see how long the typical customer keeps a relationship with your business. For example, do you have cable TV? How long have you been a cable TV subscriber to the same company? On average, how long do people remain subscribers to the same cable TV company?

Then, analyze how many transaction a typical customers makes from your business during that entire relationship period and figure out the net profit from all those transactions for the typical customer. Using the cable TV example, let's say it is five years before people switch to another company. The cable TV company can calculate their total net profit from a typical customer over those five years. That is their LCV.

How do you use the LCV?

LCV is typically used to judge the appropriateness of the costs of acquiring a new customer. For example, if a new customer costs $20 to acquire, and their LCV is $60, then the customer is judged to be profitable, and acquisition of additional similar customers is acceptable. This means you can spend anything less than $60 to acquire each new customer, and in the end, you will be profitable. Now, imagine that in this example, you are selling something that retails for $20 and gives you a profit of $10 per item, but each customer will buy that thing six times over the course of one year. So the LCV is $60 ($10 X 6). You can afford to, for example, give the first unit away free and lose $20 up front, because you know that in the end, you will get a total net of $60 from that customer. For you, that makes sense, but for another similar business that doesn't know their LCV, that will seem like a bad idea, even though you know it is a good idea.

Knowing your LCV also allows you to manage a customer relationship as an asset of specific value, to monitor the impact of management strategies and marketing investments, to determine the optimal level of investments in marketing and sales activities, it encourages you to focus on the long-term value of customers instead of investing resources in acquiring "cheap" customers with low total revenue value, to determine optimal allocation of limited resources for ongoing marketing activities to achieve a maximum return, and so on.