Customer Lifetime Value (CLV)
Customer lifetime value (CLV) is the total profit or revenue a company expects to earn from a customer over the whole relationship, usually estimated from average spend, margin and how long the customer stays.
Definition
Customer lifetime value estimates what a customer is worth over time, not just at the first purchase. It helps you decide how much you can reasonably spend to win a customer and which customers deserve the most attention. It is an estimate, built on assumptions about future behaviour, so it should be read as an order of magnitude, not as a precise figure.
A simple formula for subscriptions is: CLV = average annual revenue per customer x gross margin x average customer lifetime in years. The lifetime can be estimated as 1 divided by the annual churn rate. For example, an annual churn rate of 20% gives an average lifetime of 5 years. Revenue-based versions leave out the margin, but including it is more useful because it shows what remains after the cost of serving the customer.
CLV is most useful when compared with the cost of acquiring a customer, and when broken down by segment: a few large customers often account for much of the value. Its pitfalls are using an overall average that hides these differences, trusting a lifetime estimated from very little history, and forgetting that improving onboarding, support and retention directly raises it. Churn is the lever that moves it most.
Key points
- Simple formula: annual revenue per customer x gross margin x average lifetime in years.
- Average lifetime can be estimated as 1 divided by the annual churn rate.
- It is an estimate based on assumptions: read it as an order of magnitude.
- Compare it with the cost of acquiring a customer, and break it down by segment.
- Reducing churn and improving retention are the most direct ways to raise it.
Example
A software company earns an average of $1,200 a year from each customer and keeps a 70% gross margin, so $840 of margin per customer per year. Its annual churn rate is 20%, so the average lifetime is 1 / 0.20 = 5 years. CLV = 840 x 5 = $4,200. If winning a customer costs $1,000, each customer brings back four times the cost of acquisition.
Frequently asked questions
How do I calculate customer lifetime value?
For a subscription, multiply the average annual revenue per customer by the gross margin, then by the expected lifetime in years, which is 1 divided by the annual churn rate. With $1,200 of revenue, a 70% margin and 20% churn, CLV is 1,200 x 0.70 x 5 = $4,200.
What is the difference between CLV and revenue per customer?
Revenue per customer describes what a customer pays over a given period. CLV projects the value over the whole relationship, taking margin and expected duration into account.
Should I use revenue or margin for CLV?
Margin gives a more realistic view of what a customer is worth, because it removes the cost of serving them. Revenue is simpler and acceptable for a first estimate, as long as you say which one you use and stay consistent.
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