Hey there! Let’s chat about a crucial tool for service-based businesses that can supercharge your cash flow. It’s time to dive into the wonderful world of customer lifetime value (CLV).
What’s the Buzz about CLV?
What’s the deal with CLV, you ask?
Well, it’s simply the amount of money a customer will spend with you throughout their entire journey with you, the grand total of their purchases from you.
Now, each customer is unique, so one might drop a grand on a single product while another splurges on multiple items totaling five grand.
To calculate CLV, we take the average across all customers. It’s not rocket science, but it’s definitely worth understanding.
Why should you care about CLV?
You should care because it reveals two important things about your business decisions, and can help guide them:
- How well you’re keeping customers satisfied and coming back for more, and
- How efficiently you are spending your marketing money (be it travel expenses to speak on stages, or FB/Google ad spend and accompanying consultants.
Oh, and here’s a fabulous bonus: it helps you decide if your pricing is on point.
Let me break it down.
Finding the Sweet Spot
Picture this: Your CLV is $10,000, and you’re aiming for a 50% profit margin. That means you don’t want to spend more than $5,000 on acquiring, onboarding and providing products/services for your average customer ($10,000 x 50%).
Having existing clients staying in your system is way more efficient than constantly chasing new ones and racking up hefty acquisition costs.
Calculating CLV
Now, you might be wondering, “How the heck do I calculate CLV?”
Let’s say you offer a $1,000 four-week training as your first product. If customers want to level up after that, they can opt for your $5,000 second product. And if you really knock their socks off, they might then go all-in on your premium-ultra-deluxe-red-carpet service priced at $20,000.
Simple enough, right?
The Power of Conversion
So, let’s break it down.
What percentage of customers who buy the first product go on to purchase the second? In this example, let’s say it’s 50%.
Of those, let’s say 25% take the plunge and invest in your ultimate offering. So, out of 200 clients who join your initial program, 100 will buy the second one, and 25 of those will go for the third.
All you need to know are your different products, the customer journey, and your conversion rates. The rest is just good ol’ fashioned math:
Client buys $1,000 = $1,000 towards CLV
50% of those $1,000 clients buy $5,000 = $5,000 x 50% = $2,500 towards CLV
25% of those $5,000 clients buy $20,000 = $20,000 x 50% x 25% = $2,500 towards CLV
TOTAL CLV = $1,000 + $2,500 + $2,500 = $6,000
So, if you want a 50% profit margin, then you want to be sure that your average costs per client don’t exceed more than 50% of that CLV, or $3,000.
On average, your customer will earn you $6,000 in sales, and your costs to serve them will be $3,000:
Average Revenue: $6,000
LESS Average Costs: $3,000
EQUALS Average Profit Margin: $3,000
PROFIT MARGIN %: 50%
In short:
Remember, don’t get caught up in comparing your CLV to others. The real goal is to set your own target, understand it, and work on increasing it.
Getting an average of $6,000 from each customer over their lifetime with a 50% profit margin target means you don’t want to spend more than $3,000, per client, on everything from acquisition to operations and retention.
If your CLV is trending upward, it means you’re wowing them, and your pricing is spot on. If your CLV is trending downwards, it’s time to look at (1) your costs, (2) your pricing, and (3) how to up your retention and upsell game.
And right there, your CLV has handed you three levers to play with in your business (pricing, costs, retention).
Monitor this number monthly, and you’re playing in the successful pack of entrepreneurs.
See, finance can be fun when you know how to use it!
