Customer lifetime value (CLV) is a business metric that measures how much a business can plan to earn from the average customer over the course of the relationship. Differences in products, costs, purchase frequencies and purchase volumes can make customer lifetime value calculations complex. However, with the right tools, you can find customer lifetime value in just a few clicks.
With an understanding of CLV, you can make better-informed marketing and sales decisions, among other benefits. This guide provides insights about customer lifetime value, how to calculate this metric and more useful information about CLV that business owners and managers should know.
What Is Customer Lifetime Value (CLV)?
Customer lifetime value (CLV) is a measure of the total income a business can expect to bring in from a typical customer for as long as that person or account remains a client.
When measuring CLV, it’s best to look at the total average revenue generated by a customer and the total average profit. Each provides important insights into how customers interact with your business and if your overall marketing plan is working as expected.
For a more in-depth look, you may want to break down your company’s CLV by quartile or some other segmentation of customers. This can give greater insight into what’s working well with high-value customers, so you can work to replicate that success across your entire customer base.
Note: There are multiple definitions of CLV: Basic calculations that only look at revenue and more complex equations that factor in gross margin and operational expenses like COGS, shipping, and fulfillment. Marketing expenses can be included but are sometimes left out if they are too variable. For the sake of simplicity, we’re using revenue throughout this article.
- Customer lifetime value (CLV) is a measure of the average customer’s revenue generated over their entire relationship with a company.
- Comparing CLV to customer acquisition cost is a quick method of estimating a customer’s profitability and the business’s potential for long-term growth.
- Businesses have several marketing tools to help them improve CLV over time.
- Looking at CLV by customer segment may offer expanded insights into what’s working well and what isn’t working as well for your organization.
Customer Lifetime Value (CLV) Explained
Customer lifetime value boils down to a single number, but there may be significant nuances. By understanding the different parts of your CLV, you can test different strategies to find out what works best with your customers. Thanks to its simplicity, CLV can be an important financial metric for small businesses.
For example, let’s examine how a grocery chain may look at CLV. Based on data in the company’s ERP system, it can see that the typical customer spends $50 per visit and comes in an average of once every two weeks (26 times per year) over a seven-year relationship. The grocer can find its CLV by multiplying those three numbers — 50 x 26 x 7 — for a value of $9,100. But why does that number matter? We’ll dig into the details in the next section.
Why Is Customer Lifetime Value Important to Businesses? Why Does It Matter?
In the example above, we figured out the average lifetime value of a customer for a grocery store. But why do businesses care about CLV? Here are a few key reasons to track and use CLV:
- You Can’t Improve What You Don’t Measure: Once you start measuring customer lifetime value and breaking down the various components, you can employ specific strategies around pricing, sales, advertising and customer retention with a goal of continuously reducing costs and increasing profit.
- Make Better Decisions on Customer Acquisition Costs: When you know what you will earn from a typical customer, you can increase or decrease spending to ensure you maximize profitability and continue to attract the right types of customers.
- Improved Forecasting: CLV forecasts help you make forward-looking decisions around inventory, staffing, production capacity and other costs. Without a forecast, you could unknowingly overspend and waste money or underspend and put yourself in a bind where you struggle to keep up with demand.
Advantages of Customer Lifetime Value
- Improve Customer Retention: One of the biggest factors in addressing CLV is improving customer retention and avoiding customer attrition. Tracking these details with accurate segmentation can help you identify your best customers and determine what’s working well.
- Drive Repeat Sales: Some retailers, tech companies, restaurant chains and other businesses have loyal customer bases that come back again and again. You can use CLV to track the average number of visits per year or over the customer lifetime and use that data to strategize ways to increase repeat business.
- Encourage Higher-Value Sales: Netflix is an example of a business that improved CLV through higher pricing but learned years ago that increasing costs too quickly may scare off long-time customers. The right balance is key to success here.
- Increase Profitability: Overall, a higher CLV should lead to bigger profits. By keeping customers longer and building a business that encourages them to spend more, you should see the benefit show up on your bottom line.
Challenges of Customer Lifetime Value
- It Can Be Hard to Measure: If you don’t have quality tracking systems in place, calculating CLV can be difficult. An enterprise resource planning (ERP) or customer relationship management (CRM) system can make this information easily available on an automated dashboard that tracks KPIs.
- High-Level Results May Be Misleading: Looking at a business’s total CLV can be a helpful data point, but it can also cover up problems in certain customer segments. Breaking down the data by customer size, location and other segments may provide more useful data.
How to Measure Customer Lifetime Value
Businesses with ERP systems don’t have to worry about the math behind CLV. The system does all of the calculations for you. If you’re looking to measure customer lifetime value manually, however, you can follow the steps and formula below.
4 Steps to Measure Customer Lifetime Value
- Determine Your Average Order Value: Start by finding the value of the average sale. If you have not been tracking this data for long, consider looking at a one- or three-month period as a proxy for the full year.
- Calculate the Average Number of Transactions Per Period: Do customers come in several times a week, which might be common with a coffee shop, or only once every few years, which could be the case at a car dealership? The frequency of visits is a major driver of CLV.
- Measure Your Customer Retention: Finally, you’ll need to figure out how long the average customer sticks with your brand. Some brands, like technology and car brands, inspire lifelong loyalty. Others, like gas stations or retail chains, may have much less loyal customers.
- Calculate Customer Lifetime Value: Now you have the inputs. It's time to multiply the three numbers together to calculate CLV per the formula below.
Customer Lifetime Value Formula
Here is the formula for customer lifetime value:
CLV = Average Transaction Size x Number of Transactions x Retention Period
Each of these inputs acts as a lever you can pull to grow your CLV. However, every move your business makes may have unintended consequences that impact CLV. For example, a price increase may improve your average transaction size, but it could push customers to shop less often or look for lower-cost alternatives.
Experienced marketers familiar with the four Ps of marketing — product, place, price and promotion — have a strong understanding of how marketing efforts directly influence customer lifetime value.
Customer Lifetime Value Examples
The best way to understand CLV is through examples. Here are examples from three very different industries to better demonstrate how customer lifetime value may impact your company:
A coffee shop is a perfect starting example for CLV, as it is easy to understand even if you don’t have an extensive business background. Let’s say a local coffee chain with three locations has an average sale of $4. The typical customer is a local worker who visits two times per week, 50 weeks per year, over an average of five years.
CLV = $4 (average sale) x 100 (annual visits) x 5 (years) = $2,000
A car dealership has a much higher average sale amount with a lower purchase volume. In this example, we'll assume someone buys a new car every five years for $30,000. Customers are loyal to this brand and tend to keep buying from it for 15 years.
CLV = $30,000 (average sale) x .2 (annual purchases) x 15 (years) = $90,000
Software as a Service (SaaS) subscription
For the last example, let’s assume an online video streaming service has multiple price plans, but the average customer spends $17 per month. Customers typically subscribe for three and a half years and use automatic monthly payments.
CLV = $17 (average sale) x 12 (annual purchases) x 3.5 (years) = $714
14 Ways to Improve CLV
There are many different strategies companies can adopt to boost their CLV. Here are 14 ideas to consider if you’re trying to earn more revenue from the typical customer:
- Customer Loyalty or Rewards Programs
Customer loyalty programs keep customers engaged and reward frequent purchases. Airline frequent flyer programs and restaurant punch cards are popular examples. Incentivizing customers to return can increase purchase frequency and the amount of time a customer buys from a brand.
- Customer Experience
Your website, storefront, call center and other touchpoints are all part of the customer experience. If customers enjoy a smooth, low-stress shopping experience every time, they are more likely to return for repeat business.
- Improve Customer Onboarding
Some customers buy a product or service from a business and don't know what to do next. Successful businesses chart a path for their customer relationships over time. Turning a one-time customer into a source of recurring revenue is essential for growth in many industries.
- Customer Engagement
Businesses that actively monitor all interactions between the company and their customers can identify ways to improve the customer experience and customer loyalty. This should span channels like advertising, customer support and sales.
- Improved Customer Service
Bad customer service is a quick way to see your CLV quickly fall, as customers leave for competitors. Focusing on making every customer service interaction a positive one will further enhance customer loyalty. CRM systems and dedicated customer service platforms bring these interactions to one central location for streamlined management.
- Customer Relationship Management
Businesses need to understand their relationships and communication history with customers across sales, customer service and marketing. ERP and CRM systems help track and enhance these relationships over time by creating a seamless flow of information across the entire customer lifecycle — from lead all the way through opportunity, sales order, fulfillment, renewal, upsell and support.
- Customer Feedback Loop
If a customer does have a bad experience, it shouldn't go unresolved. In addition to relying on customer service to fix the issue, businesses should continuously solicit customer feedback to enhance the customer experience. Regular product or service iterations and fixes can resolve problem areas, helping to improve customer satisfaction.
- Invest in Technology & Software
Technology can automate processes and track and centralize much of your business data. Some companies rely on basic tools like email, spreadsheets and contact databases to manage all this information, but it’s much easier to use proven, packaged software suites to handle these functions. Your customers will notice the difference.
- Upsell and Cross-Sell
It's often easier to reengage or upsell an existing customer than bring in a new one. Upselling and cross-selling are strategies designed to encourage customers to buy more expensive or multiple products or services at once instead of a lower-cost option.
- Increase Pricing
When done correctly, a price increase can directly increase CLV. Just take care to avoid scaring off customers with dramatic price increases. Also, consider competitor pricing when determining your own. By focusing on value and giving customers something they can’t get elsewhere, you may be able to increase pricing without losing customers.
- Social Media
One of the best places to get your customers' attention is to reach them in places where they already spend time. Social media platforms like Facebook, Instagram, Twitter and TikTok are meaningful channels to both advertise and interact with customers.
- Simple Purchasing Experiences
Cart abandonment rate is a metric used by online businesses to track how many customers start shopping but leave before completing the checkout process. This can also extend to in-person buying experiences where excessive options and packaging can turn customers off. Building a simple purchase experience will help you capture every possible sale. Forward-looking businesses use strategies like A/B testing to find out what works best.
- Make Returns Easy
When a customer isn’t happy with their product or service, making returns and exchanges difficult may cost you a customer for good. A painless returns process makes it more likely a customer will come back and give your product or service another try.
- Targeted Content
Content marketing is a strategy used to educate or entertain your target customers, usually designed to build up brand trust and loyalty. Blog posts, e-books videos, podcasts and other media are popular forms of targeted content that can speak to particular segments of your audience.
Track, Measure and Improve Customer Lifetime Value With NetSuite
Business software suites like NetSuite have sophisticated analytics capabilities that can provide various value calculations, removing the need to manually cobble together metrics with a spreadsheet. NetSuite provides dashboards and tools to calculate CLV instantly, including the option to slice up the data by segment.
In addition, NetSuite offers CRM and ecommerce systems that can track all the data needed for multi-channel businesses to calculate CLV and understand how it changes over time. These systems are all part of a unified platform that presents a central source of information for the entire organization without the need for third-party integrations. That makes it much easier to find the KPIs that help you understand the performance of your business.
Customer lifetime value is too important for any organization to ignore. When you have the right tools and spend time understanding and finding ways to boost CLV, your business should enjoy increased growth and success as it moves forward.
Customer Lifetime Value (CLV) Frequently Asked Questions
Customer lifetime value refers to the entire amount a business earns from the average customer over the course of their relationship with the business.
Customer lifetime value represents the total revenue a customer will generate for a business throughout the relationship. For example, let's say a typical restaurant customer visits once per month and spends $17 per visit over an average lifetime of 10 years. The customer lifetime value would be calculated as: $17 x 12 x 10 = $2,040.
To calculate customer lifetime value, multiply the average revenue or profit per visit by the number of visits per year, then multiply by the average number of years for the typical customer relationship. The formula for customer lifetime value is:
CLV = Average Transaction Size x Number of Transactions x Retention Period
Customer lifetime value represents the total earnings from a customer over the duration of their relationship with the business. This helps a company forecast profitability, set customer acquisition budgets and determine goals for growth and improvement.