How to Calculate the Value of a Customer

Updated February 9, 2022

If you want your business to acquire and retain your most valuable customers, you need a way to determine who those customers are! In this post, we’ll go over how to calculate the value of a customer and why it’s so important.

What is Customer Lifetime Value?

Customer lifetime value, sometimes abbreviated CLV, is one of the most important business metrics to keep track of. The customer lifetime value is the total amount of money a customer will spend with you from the point of acquisition through the end of the relationship with the business. Sometimes customer lifetime value (CLV) is also called lifetime value (LTV).

Customer Lifetime Value Calculation

This financial projection requires a few assumptions. You will need a few important pieces of data to move forward with your calculations. You will need to estimate the value of an average sale, average number of transactions, and the duration of an average customer relationship. Historical data might be worth looking back at so you can accurately estimate these values.

The first step to determining customer lifetime value is to determine the lifetime value component. To determine lifetime value, one simple formula is used. This formula involves calculating the lifetime value by multiplying the average value of a sale by the average number of transactions by the average period of customer retention. Here is the formula in equation format:

Lifetime Value = Average value of sale x Number of transactions x Retention time period

When calculating average lifetime value through the above formula, the operating expenses are not taken into consideration. To calculate customer lifetime value, consider the following formula:

Customer Lifetime Value = Lifetime Value x Profit Margin

A simple formula to remember to calculate CLV is (Customer Value * Average Customer Lifespan). To find this, calculate the average purchase value, then multiply the number by the average number of purchases to figure out the customer value. Then, once the average customer lifespan is calculated, multiply that by customer value to figure out customer lifetime value.

Why is Customer Lifetime Value So Important?

There are a number of benefits of customer lifetime value, including:

 It Impacts Your Revenue

Customer Lifetime Value identifies the specific customers that contribute the most revenue to your business, which allows you to serve these customers with the products and/or services they like the most, resulting in happy customers who spend more money with your business.

Customer Loyalty and Retention Boost

When companies optimize CLV and constantly provide value through outstanding customer service, products, or loyalty programs, it boosts customer loyalty and retention. When you have more loyal customers, you have less churn and more referrals, positive reviews, and sales.

Helps Target Your Ideal Customers

When you know a customer’s lifetime value, you also know how much money they spend with you over a period of time. This knowledge helps you develop a customer acquisition strategy aimed at targeting the customers who spend the most.

Reduced Customer Acquisition Costs

We all know that acquiring new customers is expensive. In fact, studies show it can be five times more expensive than customer retention. Other studies show that a 5% increase in retention can lead to a 25%-95% increase in profits.

These stats perfectly illustrate why it’s so important to identify and nurture your most valuable customers. When you do so, you’ll benefit from higher profit margins, increased customer lifetimes values, and reduced cost for customer acquisition.

How to Increase Customer Lifetime Value

The good news is there are a number of things you can do to increase customer lifetime value, including:

  • Optimize your customer onboarding process to bring them up to speed with your brand, your values, and why they should stick with you.
  • Increase your average order value by using automation that offers complementary products to what customers are purchasing at checkout.
  • Build long-term relationships with trust at the center. If customers believe your brand truly offers the best prices and service, they’ll stick around.
  • Empower easy connections. Today’s consumers don’t wait around for brands to answer their questions. In fact, a recent survey found that 88% of customers want a response to emails in one hour or less. While this may not be possible 24/7, do your best to take advantage of those easy chances to connect with customers.

As you can tell, customer lifetime value is incredibly useful to tell you which customers spend the most and remain loyal to you for the longest. Start calculating your CLV today!