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Customer Lifetime Value

CLV Definition, Formula, & Strategies

Explore proven strategies to enhance CLV and drive long-term growth for your company.

Understanding the lifetime value of a customer significantly impacts all aspects of the business.

 

In this guide, we’ll explain what customer lifetime value (CLV) is, how to calculate it, and strategies to increase it.

What is Customer Lifetime Value (CLV)?

Customer lifetime value, or CLV, measures how much revenue a customer can generate for a business throughout the average length of the relationship. Businesses use customer lifetime value models to develop customer acquisition and retention strategies and determine how to boost CLV long-term.

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Customer lifetime value example for software-as-a-service (SaaS) platforms

To illustrate, software clients may pay a set monthly or annual subscription for three years. Using a CLV formula based on cost and the years subscribed, businesses can determine how much that customer is worth.

 

But what if a specific customer segment buys add-ons or downloads from that business multiple times throughout the year? 

 

The same software company might sell a basic subscription, but some users might also buy add-on functionality like plugins at a set price. Let’s say that customer segment purchases an average of two plugins each year worth $25 on average over the same three years. A separate calculation can be applied to uncover what that customer segment’s CLV is worth. Ecommerce businesses can use a similar calculation strategy.

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Customer lifetime value example for ecommerce businesses

An ecommerce customer might spend an average of $60 on each purchase and buy from the website three times per year for an average of five years. Each CLV number is unique to the business and its customer payment model or models. However, the CLV formula we’ve provided in this post should help in either case.

Illustration of a person purchasing on-line

Why is CLV important?

CLV guides sales planning and budgeting decisions, such as investment in customer acquisition and retention. Customer lifetime value modeling can also inform strategies to strengthen existing relationships such as customer success and loyalty programs to grow the business long-term.

 

Additionally, CLV helps businesses make strategic decisions around pricing, shipping thresholds, hiring, reducing costs and headcount, as well as other overhead costs – all to boost profit margins.

Customer Lifetime Value vs. Lifetime Value

These terms are often used interchangeably.

 

Some sales organizations distinguish CLV as being an individual customer’s value over the length of their relationship with a business, and LTV meaning the average CLV of all existing customers.

 

However, calculations and definitions will be different for each company, and most calculations produce similar metrics. That is why both CLV and LTV can be used to describe the same thing.

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How to calculate customer lifetime value (CLV)

Marketers must follow specific steps before calculating CLV.

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Step 1. Gather sales revenue and churn rate data

First, gather all the customer information required to complete the CLV formula. Here’s what to prepare:

A) The average customer order or purchase value

Dive into sales data to uncover the average amount target customers spend on in-person purchases or online orders. This will help in calculating the average customer value

 

To calculate this number, take the total sales revenue earned in one year from target customers, and divide it by the total number of customers.

average purchase value = total sales revenue divided by total number of customers

B) The average number of customer transactions per year

Find out the average number of sales transactions target customers make in a year to understand their purchase frequency.

 

To get this number, take the total number of transactions made in a year and divide it by the total number of customers.

Average purchases per year = Total number of transactions in a year divided total number of customers

C) The average customer lifespan (or churn rate)

Finally, uncover how long the average customer spends making purchases from the business before “churning,” meaning they never returned to make more purchases.

 

Subtract the number of customers who churned over a given period of time (e.g., one year) from the total number of customers who were still buying from the business at the beginning of that timeframe. Then divide that sum by the number of users at the beginning of the period.

Churn rate = Users at the beginning of the timeframe minus Users lost during that timeframe divided by Users at the beginning of the timeframe

Step 2. Estimate the customer value as part of the equation

Once this customer information is gathered, calculate the average customer purchase value times their purchase frequency rate (the average number of customer transactions per year). Some businesses also refer to this as average revenue per user (ARPU).

A) The average customer order or purchase value

Dive into sales data to uncover the average amount target customers spend on in-person purchases or online orders. This will help in calculating the average customer value.

 

To calculate this number, take the total sales revenue earned in one year from target customers, and divide it by the total number of customers.

Customer Value = Average Cost of Purchases times Purchase Frequency

For example, if the SaaS customer from the example earlier pays $20 per month for a year, then their customer value is $240 per year ($20 X 12). 

 

For the software plugin customer segment example, you’d multiply the $25 average cost of purchases per user times two downloads to get a $50 ($25 x 2) customer value per year.

 

For the ecommerce example, we’d multiply the $60 average revenue per user by three times per year to get $180 for the customer value ($60 X 3).

Step 3. Model customer behavior to calculate CLV

Now businesses should have everything they need to calculate their customer lifetime value or CLV.

Customer lifetime value formula

Here’s what the CLV formula should look like:

CLV = Customer Value times Average Customer Lifespan

Using the SaaS example from above, we’d take the $240 customer value number, multiplied by an average lifespan of three years, to get the CLV which would be $720 ($240 X 3 years). 

 

For the software plugin customer segment, you’d multiply the customer value of $50 per year times three years ($50 X 3) to get $150 for their customer lifetime value. This number could also then be added to the $240 per year (for the subscription value) to get a total CLV of $390 ($240 + $150) for that customer segment. Naturally, this segment is worth more to a software company which should, therefore, create a separate acquisition and retention strategy for these customers.

 

With the ecommerce example, we’d use the $180 customer value number and multiply it by five years for the average customer lifespan to get the CLV of $900 ($180 X 5 years).

Strategies to increase customer lifetime value

Once businesses understand how much a customer is worth with the CLV calculation, they can use the following strategies to lengthen the relationship and boost their customer lifetime value over time.

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1. Improve retention and reduce churn

To increase CLV, businesses can invest in strategies to reduce churn and retain more customers overall and by customer segment as illustrated above.Here are some strategies that have worked to help businesses lengthen all customer relationships:

A) Invest in better customer service solutions and product support: 

 

By providing multiple ways for a customer to get in touch 24/7 via online chatbots, 1-800 numbers, email, and text messaging.

 

 

B) Offer online self-service support: 

 

Some clients prefer to seek their own product solutions before speaking to a customer support representative or customer success team. That’s why many businesses offer online self-service support like FAQs, product user forums to share product tips, online courses, live webinars or Q&As, videos, and blogs that explain product use cases and solutions in more detail.

 

Likewise, consider hosting live webinars and streaming video to showcase how users can boost their experience and results. Then, save the live discussions and host them on the sales organization’s website and video platforms to be accessed by other software customers at a later date.

 

 

C) Respond quickly to social media posts and online product reviews: 

 

Build a team` that regularly monitors and responds to customer queries and comments on social media, as well as product reviews on product pages and review websites. This strategy will ensure frustrated customers get immediate support and solutions for their product and service challenges.

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2. Prioritize relationship marketing

Building strong B2B customer relationships can help to reduce churn and boost customer satisfaction.

 

Some popular ways to build strong relationships include:

A) Loyalty programs to reward a business’ biggest customers. 

 

For example, a tiered incentive program can reward customers for buying more from a business or referring other businesses. This loyalty program might enable customers to accumulate points that can be redeemed later for feature upgrades or discounts based on order volumes or price points.

 

 

B) Cashback and incentives 

 

for when customers spend more with a business.

 

 

C) VIP experiences for top customers, like regular access to a CEO 

 

or VP at a company.

 

 

D) New product freebies and early free trials or beta launch access 

 

to high-paying, loyal clients.

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3. Improve products and personalize the user experience

Enhancing products and launching new features over time can also boost long-term customer relationships. Businesses must continuously survey customers to find out what is working or why they are churning. Use that information to prioritize new product feature development and services to enhance or improve the user experience.

 

For example, building out personalization features for SaaS, healthcare, finance, and ecommerce businesses to use in everything from email marketing to website product recommendations  – making the user experience more valuable to customers and increasing their CLV.

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4. Cross-sell for an integrated approach

Finally, businesses can use cross-selling strategies to provide an integrated user experience for customers.

 

On a SaaS platform, that might involve promoting new software features, upgrades, or add-ons like plugins or other software integrations to enhance the user experience and improve business outcomes for customers already using the SaaS software.

 

Regularly bundling popular products with other related products on ecommerce sites and SaaS client platforms or offering a buy one get one promotion can also help to boost the average customer order value (AOV) and their CLV over time.

 

Additionally, cross-selling can involve suggesting other ecommerce products – via email, in the checkout process, or on product pages – that other customers frequently bought with the item someone has just added to their cart.

illustration of a person purchasing a bundled product to receive a discount

Customer lifetime value can boost long-term sales growth

Understanding customer lifetime value, or CLV, helps sales and business development teams know how much to invest in various strategies – from retention, acquisition, customer success, and loyalty while still remaining profitable.

 

Key metrics, like customer value and churn rates, are also essential to calculate the overall customer lifetime value for target customer segments. 

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Knowing all of this information can help businesses boost long-term sales growth by:

  • Building stronger relationships with their most profitable clients or customer segments
 
  • Understanding why those top customers continue to purchase their products
 
  • Prioritizing and further developing the products and services those clients value most
 
  • Boosting the average CLV over time by evaluating their top customers’ spending habits and predicting their future needs

Finally, businesses can use CLV to plan for everything from headcount to sales, marketing, and production costs – all to position themselves for a sustainable and profitable future.

To learn how improving customer service can boost long-term ROI and business growth as part of the CLV, take the LinkedIn course: Measuring the Value of Customer Service.

CLV Frequently asked questions (FAQs)

Here are some answers to additional customer lifetime value FAQs.

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1. Can CLV be used to predict future revenue?

The CLV calculations above are based on historical sales data. However, machine learning and artificial intelligence CLV tools can help businesses project future earnings and develop acquisition and retention strategies, as well as long-term sales targets.

 

CLV can also demonstrate long-term business viability and enables sales and product teams to identify the most valuable customer segments for loyalty and cross-selling strategies.

2. How often should CLV be calculated?

The frequency at which businesses calculate CLV depends on their business model(s) and how often they set budgets and sales targets. CLV is often calculated quarterly annually and is used when building out long-term strategies (e.g., three or five-year projections).

3. What’s the difference between CLV and CAC?

Customer acquisition cost, or CAC calculations, help businesses identify the average amount they need to spend to acquire a new customer. CLV can, therefore, inform the CAC, which should always be the lesser of the two to ensure a business remains profitable.

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