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what is the customer lifetime value formula?

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The world of advertising and digital marketing is moving the economy at the moment, so the more accurate the accounts are and the more factors we are taking into account, the better our strategy will be and the more profits we will end up making. KPIs have become an essential part of any advertising plan or marketing strategy, if you want to succeed, you need to measure how you are going to achieve that success. Every day more terms and formulas are born to make this possible, one of them that is currently very fashionable among companies is the customer lifetime value, but what does it mean and why is it important?

Customer lifetime value

Customer Lifetime Value (CLV), also called customer lifetime value, is an estimate of what the company believes it will receive monetarily from the customer for as long as the customer is a customer of the company.

In other words, it is a calculation that estimates the money that a specific customer or type of customer is going to spend on the company's products or services throughout their life as a customer, a time that must also be estimated in order to make this calculation. In marketing and advertising, everything that can be measured must be measurable, especially at a monetary level. We could say that time is literally worth gold and that KPIs are the driving force behind any good marketing strategy.

So we can say that customer lifetime value is used to analyse the flow of money that we will have in the future thanks to the time that the customer will be spending money with us. Thanks to this we can understand one of the great ideas in marketing: it is better to retain old customers than to try to acquire new ones.

A customer who already knows the brand and has chosen it before others, is loyal, so he will be loyal and will make purchases with that brand, on the other hand, a new customer is much more likely to not buy again and go with the competition. There are even statistics that show that getting a new customer is 5 times more complicated than getting an old one to be loyal to your brand. This also means that finding new customers is five times more expensive for the company than getting an old customer to become a loyal customer and continue buying from the brand for years.

But this not only helps us to know how much money a customer is going to spend on us, it helps us to keep them over time and keep them spending money on our company, something that is much more important than the money they invest, i.e., I prefer a loyal customer who spends 10 euros every week on my product, than one who buys only once and spends 100.

But then, how do we calculate the customer lifetime value?

It is already clear what the customer lifetime value consists of, but now it is time to explain how these figures are obtained in order to be able to operate with them. To do this, we need to have other data beforehand, which is the average consumption of the customers, which would allow us to calculate the total spending per week of each customer.

With this data and making an assumption (according to the industry) of the number of years that the customer will remain loyal to our company, we apply the following formula:

CLV= Average spend per week x Number of weeks in the year x Number of years

With this we would only get the money that customer spends on us, but we are not finding out the investment of the company for offering the service to the customer, so for the calculation to be correct and we can directly obtain the profit we get from each customer in gross, we must include the contribution margin.

CLV2= CLV x X%

This result helps us to make better strategic decisions within our own business and raises three questions: I investing the right amount? Maybe we realise that we are underinvesting in our customers and this is one of the flaws in our strategy, or we find out that I am overspending on the customer when I could invest less and still get the same results from them.

2. are we attracting the type of customer that is best for our business? Maybe with our marketing strategy we are attracting a lot of customers and we are doing well, but their customer lifetime value is low because they are not the type of loyal customer we should be attracting, who would not only last longer as a loyal customer, but would spend more money on our products.

3. how much money would it be smart to invest in social media and email to get customers? Finally, a very important question that every business with a good marketing strategy should ask itself. Nowadays, a large part of the target audience that we get is through persuasion methods on the internet, if the customer does not go to your business, your business has to go to the customer. But this is not done just like that, without any kind of strategy, you have to think about how to do it, who to target and how much money to invest in it.

If we invest less, our advertising would not be reaching our target customers, so it would be an absurd investment that would end up making us lose money because it would not be working.

On the other hand, if we invest more money than we should, we could be getting the same results that we would get with less investment, so we would be losing money again.

All of this helps us to better understand the types of customers that exist and the value they have in the long term, which not only helps us with our marketing strategy, but also helps us to segment our strategy by being able to form one for each type of existing customer in order to build loyalty to the brand and products, which is essential to optimise strategies.

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