Lifetime value
From Wikipedia, the free encyclopedia
In marketing, the Lifetime Value (LTV) of a customer is the present value (usually expressed in currency) of future profits that can be derived from a customer based on the profits that have been received from that customer in the past.
Although individual LTV calculation can vary, the calculations are usually based on several factors:
- Recency - How recent were the profits gained from this customer?
- Frequency - How often have we done business with this customer?
- Volume - How much total has been derived from this customer?
By analyzing LTV, a company gets an accurate projection of the value of keeping customers loyal. This provides a basis for the return on investment of customer service systems.
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[edit] Components of Lifetime Value
Lifetime Value is typically calculated by estimating the profit from a customer over a fixed period of time, which may or may not correspond to a customer's "lifetime" with an enterprise. Examples include a profit stream from a series of purchases of merchandise from a catalog firm, a series of donations to a non-profit venture, or purchasing financial products from a bank.
The calculation of lifetime value often follows a methodology such as:
- Determine the time horizon over which lifetime value will be calculated (e.g., 5 years)
- Determine the interest rate to be used when computing present value
- Determine the costs attributable to a customer
- Sum the revenue, subtract costs, and take the present value over the specified time period
[edit] Treatment of Costs in LTV
Costs as applied to LTV usually include the following:
- Costs of merchandise sold, if applicable (e.g., the cost to produce a physical item)
- Costs of services provided, if applicable (e.g., donations made to a chartiable cause)
- Costs of maintenance, if applicable (e.g., commissions paid to a third party servicing firm)
The treatment of indirect costs are also important. A complete estimate of the costs to an organization of a relationship with a customer also includes indirect costs of real estate, computer hardware, software, and services, management expenses, operational expenses such as payroll and accounting, and many other costs. These are often charged back as a percentage of gross revenue. If the scale of a business grows or shrinks dramatically, these costs can be very significant due to the changing balance of fixed and variable expenses.
[edit] Uses of Lifetime Value
Lifetime Value is typically used to judge the appropriateness of the costs of acquisition of a customer. For example, if a new customer costs $50 to acquire (CPNC, or Cost Per New Customer), and their lifetime value is $60, then the customer is judged to be profitable, and acquisition of additional similar customers is acceptable. For this reason, the costs involved in the first purchase are typiclaly not included in LTV, but rather, in the Cost Per New Customer calculation.
[edit] See also
- marketing
- database marketing
- customer service
- One-to-one marketing
[edit] References
- The One to One Future: Building Relationship One Customer at a Time by Don Peppers and Martha Rogers, Ph.D. page 36
- Enterprise One to One: Tools for Competing in the Interactive Age by Don Peppers and Martha Rogers, Ph.D.
- The New Direct Marketing: How to Implement a Pofit-Driven Database and Marketing Strategy by David Shepard Associates Irwin Professional Publishing, 1995
