How Much are Your Customers Worth?

The lifetime value of a customer is measured by the value a customer brings to your business throughout that customer's entire relationship with you. It's the monetary value your customers bring to your business over a period of time. In other words, you need to know how long your customers stay with you after that first sale.

Before you can calculate the lifetime value of your customers, you need several figures: the average cost of production for your products; the average sale price of your products; the average profit you make from each sale (difference between the cost of production and the sale price); and the average lifetime of your customers in each group (you could figure average lifetime of all customers, but dividing them into segments gives you a more accurate understanding of both the lifetime and the value).

You determine the lifetime by tracking the buying patterns of your customers. If you have been in business for a few years or longer, you can estimate this figure by randomly choosing at least 50 former customers who have bought nothing from you in the past 12 months. The bigger the sample, the more accurately you'll be able to estimate this figure.

Now, find two dates: the first date they bought from you and the last date they bought from you. Then calculate the number of days, months or years between those two dates for each customer. Add all those days together and divide by 50 (or the total number of the sample you are working with).

This gives you an accurate guess as to how long your average customer lifetime is for all your customers. It's even better if you can break down your customers into segments and figure the value for each segment using the same method.

Now to figure the average value, total the amount of money this group spent with you throughout their lifetime (assume $30,000) and subtract the cost of production from those purchases (assume $10,000): $30,000 - $10,000 = $20,000 net profit. Then divide your net profit by 50 to arrive at the average worth of each customer: $20,000/50 = $400.

That means that throughout an average customer lifetime, you can expect to earn $400 in profits from each new customer you gain and keep in your lifecycle.

Another way to calculate lifetime value is to multiply the average sale by the number of times customers reorder: Average Sale x Average Number of Times Customers Reorder = Lifetime Value. An average sale is simply the total dollar amount of sales divided by the number of actual sales: $45,000 Total Revenue/900 Total Sales = $50 Average Sale.

You determine the average number of times customers reorder by dividing the total number of customers you have by the total number of sales you have made: 900 Total Sales/300 Total Customers=3 Times Customers Reorder. So using these sample numbers, your lifetime value would be: $50 Avg Sale x 3 Avg Times Customers Reorder = $150 Lifetime Value.

To then get the figure you can spend to attract and acquire new customers, subtract the cost of goods sold and the cost of retention from the total amount of money your customers spend with you throughout their lifetimes. If you are estimating because you are just starting out and have no real, hard figures to work with, estimate with conservative numbers.

Also, you don't have to wait an entire "lifetime" to begin figuring out customer value. For example, imagine you have launched 10 different marketing campaigns to drive traffic to your site, and you know how much each new customer from each campaign cost you to acquire.

Now you only have the money to continue running 5 campaigns. How do you know which campaigns to abandon for now and which ones to continue? Simple. Look at the recency and lifetime projections for all 10.

The campaigns with the highest recency rate are your best bet for high lifetime value customers. So that's where you put your money. You many not have an actual lifetime value, but you can still maximize your marketing dollars.

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