Customer Lifetime Value: Definition, Importance and Formula

Sometimes it’s easy to think about the customer journey as just that: a scenario with a beginning (such as subscribing to your newsletter) and a final destination (clicking the buy button to make a purchase). However, it should be considered a mutually beneficial, long-lasting partnership.

You want to create a lifetime of valuable interactions that result in a relationship where you provide solutions that improve the customer’s life. Then, the goal is that they will reciprocate by making purchases and referring others to your brand.

Customer lifetime value (CLV) lets you take a look at the true value of a customer over their lifetime spent with your company. When you approach your marketing and sales strategies with customer retention rates in mind, your business’s ability to generate revenue rises.

Understanding customer lifetime value (CLV)

CLV is an itemized look into your customer base’s lifetime value (LTV). A customer lifetime value formula (CLV) is used to determine how much revenue a customer could generate for your business over the course of your relationship. This is why a high retention rate is key—the longer the customer lifespan, the higher their CLV.

Why is CLV important?

Understanding customer lifetime value (CLV) can help you yield the best ROI from customer acquisition costs (CAC) and create relevant customer journeys that keep customers investing in your business for years to come.

Read on for more about the different customer lifetime value (CLV) models, guidance on developing your customer lifetime value formula, and information about top CLV strategies that help your customer relationships grow.

The 2 Types of Customer Lifetime Value (CLV) Models

Before we begin calculating CLV, it’s important to go over the fundamental difference between the two types of customer lifetime value (CLV) models.

Both help optimize customer acquisition costs, summarize customer value, and calculate profitability; however, as their naming conventions imply, Predictive CLV and Historical CLV calculate customer lifetime value (CLV) from different points on the timeline.

Predictive CLV

The lifetime value formula for predictive customer lifetime value (CLV) uses algorithms and machine learning (ML) technology to estimate the (likely) dollar value that customers (both new and current) will generate.

This model helps improve marketing campaigns by identifying high-value prospects. Identifying high-value prospects ensures marketing budgets are invested where the most ideal customer lifetime value (CLV) can be achieved.

Artificial intelligence (AI) and machine learning calculate CLV functions by analyzing past (overall) customer and purchasing data (including invoice numbers and their dates, order value, product pricing, customer IDs, etc.). It then interprets this information into future buying predictions for current and potential customers.

This is a high ROI investment regarding customer acquisition cost (CAC), since it helps your business not only assess CLV for your current customer base but also helps target new customer segments with the best chance of generating high, long-term value.

Using artificial intelligence to analyze customer data can lead to better customer retention, more accurate buying data (regardless of whether the customer is labeled Active or Inactive), and information that helps you improve customer experiences (CX).

Historical CLV

Using a historical CLV model to create a lifetime value calculation doesn’t generate predictions for you. Instead, the marketing and sales team estimates the remaining potential CLV of current customers by analyzing the existing purchase data of that individual consumer.

While historical lifetime value calculations are great for interpreting data during specific buying periods (like buying a Thanksgiving turkey from the same brand year after year), it struggles to be as effective as predictive CLV because it lacks AI’s ability to generate highly relevant and comprehensive projections.

How much are your current clients costing you?

It’s hard to develop cost-effective marketing campaigns, nurture customer retention (reduce churn), or even know how to effectively price products/services without knowing the customer’s overall monetary value. When you calculate customer lifetime value (CLV), your CLV formula creates a comprehensive roadmap of important metrics for your operations.

From customer acquisition costs (CAC) to customer retention, understanding these CLV metrics helps mitigate guesswork. In turn, better insight makes marketing, product promotions, and customer loyalty programs more cost-effective.

You’ll understand exactly how much it costs to convert new customers and how much it costs to keep them. With this information, you can optimize the sales process to eliminate friction in the customer journey. You can also identify the marketing channels generating the most conversions (profitability) versus those creating deficits.

Calculating CLV gives you more control over your costs, which ultimately increases your revenue generation. It helps increase customer retention, because your team may notice recurring steps in the customer journey where churn rate occurs. Identifying these weak points helps you make corrections that improve customer relationships.

How To Calculate Customer Lifetime Value (CLV)

With a better understanding of CLV (customer lifetime value) and how calculating CLV metrics can improve customer acquisition costs and lower churn, it’s time to learn how to calculate the lifetime value of a customer using three correlating methods.

Simple (CLV) Customer Lifetime Value Formula

The simple model is the most straightforward CLV formula. This CLV calculation gives you insight into specific customer or customer segments. It doesn’t give the total LTV (lifetime value, which encompasses all customers).

Here’s what the CLV formula looks like:

Customer Value (the amount of revenue they invest) x Average Customer Lifespan (how long that customer remains a customer) = CLTV

It’s important to remember that, when calculating CLV, lacking well-organized customer and purchase information can cause roadblocks. Use the following formulas to figure out your CLV for each customer who spends with you.

How To Find Customer Value

The first (and likely easiest) CLV data to collect is customer value. This data is key to improving revenue generation, as you can identify which customer segments yield the highest profit.

Here’s what the formula looks like in its simplest terms:

Customer Value = Average Purchase Value (APV) X Average Number of Purchases 

Knowing which type of customers are spending the most drives marketing and lead-generation strategies accordingly. You’ll also better understand which customer segments are more likely to churn (and when). These LTV metrics can enhance future retention rate strategies.

How To Find Customer Lifespan

ACL (Average Customer Lifespan) is the second component for those calculating CLV. This metric contributes to the greater LTV. It shows the average length of time between a customer’s very first purchase and final purchase with your company. This information helps with forecasting your customer base’s total revenue potential.

Finding customer lifespans isn’t as much of a CLV/LTV formula as it is a metric:

Customer Lifespan = Time between first and last purchase

Note: This information impacts your overall success with calculating CLV, but you’ll have a lot of trouble trying to calculate customer lifespans without effective data management in place.

Like finding customer value, determining an accurate customer lifespan can improve your future marketing efforts, help with customer segmentation, and identify pitfalls in your customer journey that trigger your customer base to churn.

5 Techniques To Improve Customer Lifetime Value

Now that you have a better understanding of how to calculate customer lifetime value (CLV), developing a clearer picture of your CLV metrics becomes much easier. The following marketing strategies can help improve your customer lifetime value metrics, increase the lifespan of your customer base, and nurture loyal customers who boost your profits and LTV.

Build Up the Customer Experience

The quality of your customers’ experiences affects customer lifetime value (LTV). Aside from your ability to convert new customers, your customer experience also impacts your retention rate. You must ensure every step of the customer journey is convenient, user-friendly, and intuitive.

You can improve your customer experience (CX) by creating relevant and engaging marketing content, providing responsive customer support, implementing technology that enhances your marketing efforts, and improving customer service.

Start a Loyalty Program

You can’t multiply customer lifetime value if the customer’s lifespan is cut short. Increasing loyalty across your customer segments has a lasting impact on your total revenue. A great way to lower churn is by creating customer loyalty programs, which encourage customers to return to spend more with special discount codes and perks for those who make multiple purchases.

If you want to see a higher value for a customer the next time you calculate customer lifetime values, strengthen customer relationships with customer loyalty programs. But, remember, offering benefits for loyalty isn’t just about enticing another purchase. It’s about making the customer feel appreciated, which decreases the chances they’ll churn.

Recognize Your Customers — and Reward Them

Take your retention rate efforts to the next level by rewarding loyal customers who already have high CLV. Similar to customer loyalty programs, reward this premium customer segment with promotions and discounts that have a higher value and are relevant to the specific customer’s buying habits. This additional appreciation for loyalty will increase CLV and lower churn.

Provide Omnichannel Support

Your customers aren’t going to respond to one-size-fits-all support. While your target customer segments may favor certain social media platforms or devices, you must provide omnichannel support. Doing this ensures you never miss the opportunity to engage with your ideal prospects. You’ll increase customer lifetime value (CLV) by staying connected whenever (and wherever) your customers need your support.

Close the Loop With Unhappy Customers

It’s tough to know you’ve let customers down, and it’s even harder to face their criticism. There are many reasons a customer may be disgruntled, and it may not even be your fault. However, if you don’t want to multiply the damage to CLV scores, you must heal damaged customer relationships.

Your business still has the opportunity to turn frustration into customer satisfaction. If a customer reaches out with a complaint or broadcasts their issue publicly, never ignore them. Negative feedback is hard to hear, but it can be helpful. When a customer expresses their issue, you have an opportunity to fix the problem.

Leaving unhappy customers hanging not only increases churn rates but also can potentially ostracize customers who notice that your brand only interacts with positive comments.

It isn’t just important to respond when it comes to preserving customer lifetime value. You need to be fast, too. Every moment, hour, or day that ticks by without responding to a customer’s problem weakens customer relationships and lowers CLV.

Implement processes and tools that help you respond to customers and resolve their problems quickly.

Improve CLV With Podium’s AI Employee

A high customer lifetime value (CLV) score hinges on the quality of their customer experience. Customers must feel respected and understood for your business to reduce churn and increase customer lifetime value metrics. However, even a large customer service team can struggle to provide consistently fast and high-quality communications with manual processes.

One of the most effective methods to boost customer lifetime value is by using AI.

Podium’s AI Employee is a groundbreaking addition to your sales and lead generation process. It provides 24/7 expert support that’s so engaging and helpful that your customers will never know they aren’t talking to a real person.

No matter what time it is, where your customers are, or what device or channel they’re reaching out from, your AI Employee will be there. No sick days, no holidays, and no burnout.

Schedule a demo to learn how Podium’s AI Employee can boost your CLV today.