What customer lifetime value is and how it can boost your profitability

We’re starting this post off differently than most by asking you right off the bat:

Are some clients better than others?

Some are, right?

The reason is simple. A good client is one who buys a lot, and who buys many times.

This obvious idea leads us to one of the most important metrics for any e-commerce: customer lifetime value (CLV).

And this one really is incredibly important since it will help you boost your business’ profitability and decrease your client acquisition cost.

What? How? When?

We’ll explain everything – keep calm and read on. ;)

What is Customer Lifetime Value or CLV?

Let’s start with a definition.

Customer Lifetime Value or CLV is the estimated net economic value contributed by a customer to your e-commerce throughout the duration of the commercial relationship.

When we say net value, we are talking about the total income generated by a client minus the cost of getting, keeping, and getting them back.

And then, that number is divided by the number of years that you have maintained a commercial relationship.

This variable ties in perfectly to attribution models:

  • If you know your client in depth,
  • You know which channel they’re buying through,
  • And you calculate the value that they add…

It will be way easier to optimize your selling strategy.

But let’s break this down step by step.

What stage of the relationship are you and your clients in? CLV phases

Customer Lifetime Value has the same stages as Product Lifetime Value; it’s like a living being that is born, grows, reproduces, and dies.

A. Introduction

It’s the client conversion process. This begins with cold traffic arriving at shop for the first time. They start getting to know you and then place their first order.

This is the stage we talked about in this post about the conversion funnel (although you may remember that the funnel concept can also be applied to customer lifetime value).

B. Growth

Your clients know you and trust you as an interlocutor. They come to you frequently looking for information and to place more orders.

This is why it’s always good to work with a combined strategy that uses both email marketing and cross-selling.

C. Maturation

The relationship is growing stronger and loyal customers are placing orders on an ongoing basis. It’s the ideal moment, but you have to tend to the relationship so that it doesn’t fall into the final stage of decline.

You may want to read:

D. Decline

Clients start to buy less frequently, they ask for discounts, and, in the end, they stop buying altogether.

Of course, this isn’t an immutable cycle – changes can still be made. The ideal situation is to make the maturation stage last as long as possible, the likes of Coca-Cola – the brand living in a stage of never-ending maturation. ;)

Advantages of knowing CLV: why is it important for your e-commerce?

Most business executives, as we’ve mentioned before, treat client relationships as if they were living beings:

Things are hesitant at the beginning (first contact and first order in the introductory phase), and then you go through a decisive phase full of transactions (growth and maturation) until you reach a decline phase, when clients stop ordering products and the breakup takes place.

Knowing this will help you to:

  • Assess whether your project is profitable or not: You need to spend less money on clients than what you take in from their transactions (this doesn’t normally happen during the first phase since you are investing in getting more clients).
  • Foresee your income: This means predicting the frequency with which each segment of clients buys from your online shop and the foresight of how much value they will add to your business.
  • Foresee your expenses: Establish how much you can and should spend to get or retain clients.
  • Get more profitable clients: Discover which groups of clients have a better ROI in your company.
  • Control your money: Find out how long it takes you to cover the cost of acquisition and how to reduce it.
  • Optimize your sales funnel: Know when it’s more profitable to get new clients instead of keeping the old ones.
  • Get clients forever: Learn how to delay or even avoid the well-known death of the relationship.

That is to say, it will help you make better decisions in order to decide how you are going to invest your time and money to get the most suitable clients and increase your e-commerce profit margin.

How is it calculated? The Customer Lifetime Value formula

If you look into it, you’ll see that there are different options to calculate this value.

Your clients’ behavior is not always the same and there are several subjective variables that intervene, so it’s unpredictable.

It’s difficult to create a formula that works for all your clients because the final goal is to know how much you must spend on a client so that continue to be profitable.

That’s why we’ve tried to simplify the math to give you a useful figure that will help you optimize your sales strategies.

Let’s see an example to understand it all better.

In a 5-year time period, a client has placed different orders and spent a total of €25,000. During this period, you have invested €5,000 in different strategies to make those sales.

The CLV for this client would be (25,000 – 5,000)/5 years = €4,000 per year.

Is that a high figure?

Well, that depends on several factors, such as:

A. The catalog of products that you sell

If you have an online real estate agency, your clients will repeat fewer times than if you have a disposable contact lenses shop.

Therefore, the income estimate will be very different for different types of e-commerce shops.

B. The stage in the CLV your clients are in

Your marketing efforts to get clients during the first stage are different than the actions you carry out during the maturation phase.

C. Who do you sell to?

B2B businesses place orders with a higher checkout price, but the negotiation processes are longer (they will require more investment on your side), as we mentioned in this post.

How to improve your CLV value?

If you calculate the CLV for a segment of clients and find out that it’s worth keeping them and avoiding the decline phase, you have to start working to keep those customers.

Let’s see how you can do it.

1. By increasing the cost per client

This is one of the most common worries held by online shop owners. For that reason, we have talked about it on several different occasions – you can read about it in the following posts:

Apply some of these strategies and you’ll see how your sales start to grow.

2. Fixing psycological prices

We’re willing you bet you’ve heard of this and possibly even used it at some point when you decided to end your prices in 9 or 7.

It’s all about setting strategic prices to make your clients buy by using the emotional side based on perceived product value.

You can read more about this one in our post on pricing strategies.

3. Making each order become a unique experience

We’ve already talked about how important a quality logistics system is, but you can go a step further.

You can personalize your delivered product by adding details and turning the order into a positive experience that clients want to repeat.

Here you have some simple ideas:

  • A handwritten note – or printed in a handwriting font – with the client’s name.
  • A famous quote or motivational sentence related to the product.
  • A discount for the next purchase.
  • A small free gift.
  • A detail added to the wrapping (sweets, a funny sticker, etc.).

If you make your clients smile when they open the package, you are changing the perception of “just buying something” that they might have otherwise had to something else. Read this post to get more ideas about improving your packaging.

4. Working on your newsletter

To help remember the keys to a good strategy, you can read our mega guide about email marketing for e-commerce, but the main idea is that email marketing is an essential sales tool.

Knowing your customer’s email address opens the door to keeping them updated about your offers, excusive promotions, new products, etc.

If you are also working with remarketing, you can even send them emails to remind them when it’s time to buy their products again (when they always buy the same thing after a certain amount of time, like with espresso coffee machine capsules).

You can read more about remarketing for e-commerce here.

5. Taking advantage of your Social Networks

In order to increase engagement with your clients, you need to interact with them. And there’s no better tool for that than social networks.

It’s not about selling directly on Facebook or Pinterest, but rather creating a community around your online shop and using the different communication channels with your clients offered by these platforms.

Get the most out of your company profiles thanks to the instructions laid out for you in this post.

6. Creating loyalty programs

We’ve already talked about how important it is to foster client loyalty and this post is evidence of just that.

If, on top of that, your clients are going through the CLV growth stage, it’s essential to make keep happy so that they feel important and continue to make new purchases.

Learn 5 ways to foster your customer loyalty in this post.

At the end of the day, the idea is to come up with a way to make the relationship between your client and your e-commerce last as long as possible.

Important

Bear in mind that a happy client is a brand ambassador (because of the word-of-mouth effect), so you will capture new clients with an incredibly low acquisition cost. ;)

Now do you know how to calculate CLV to identify priority clients?

As you can see, it’s important to look for clients for your shop, but they have to be the right ones.

When you determine the CLV of your customers, you’ll know who to focus on to maximize profitability with your e-commerce.

While it may seem difficult, doing this will eventually allow you to work less and increase profitability because you will be targeting those who are more willing to buy.

And that’s more than enough reason to get to work! ;)