Customer Lifetime Value for Startups, Explained
What is the Customer Lifetime Value of Startups?
Customer Lifetime Value is a concept that is frequently discussed in marketing circles, and it’s one of the most important metrics for any business to calculate. However, it’s not always easy to calculate your customer lifetime value, especially if you’re a startup just starting out.
But what exactly does customer lifetime value mean? And how can you calculate your customer lifetime value using startup data?
I will explain the basics of calculating customer lifetime value and show you how to calculate your startup’s CLV so that you can start identifying your most valuable customers.
By identifying your most valuable customers, you can then use this information to determine which customers are worth spending more resources on and which customers are worth losing.
What Exactly Is Customer Lifetime Value?
Customer lifetime value (CLV) is defined as the total revenue generated by a customer over their total relationship with a business.
The total relationship can include anything from multiple purchases to multiple years of service or something else entirely unique to that particular business or industry.
Whatever specific timeframe you use as the basis for your calculation, it should encompass all future business in the form of repeat purchases and/or future sales brought in by new referrals.
In general, customer lifetime value is calculated by multiplying two factors:
average revenue per user (ARPU);
average retention rate (ignore any periods where there is no revenue because these don’t contribute to ARPU).
Then, simply multiply those two numbers together:
ARPU x retention rate = CLV.
Of course, different industries have different retention rates and average revenue per user metrics.
For example, a mobile game may have lower retention rates than a SaaS company but have higher ARPU because users are making microtransactions within the game every time they play it rather than purchasing entire licenses for an SaaS product like Intercom offers its users.
So while these metrics are necessary for calculating CLV, they vary based on industry so be sure to look at market averages before calculating your own CLV using only empirical data from your own company.
To better understand why this number is important we need to look at two factors:
- what happens when we know our CLV and
- 2) what happens when we don’t know our CLV (and why we need this number).
Let’s first look at what happens when you know your CLV
Knowing Your Customer Lifetime Value Helps You Understand Which Customers Are Worth Spending More Resources On
The biggest reason why your startup needs to know their customer lifetime value is so that you can better understand your most valuable customers. When you know which customers are worth spending more resources on, you can focus efforts towards retaining this group while removing any friction from the process of buying from your company.
This allows for better communication with these valuable customers and helps to improve service and support as well.
Knowing your customer lifetime value also helps you identify which customers are worth losing.
You can use this information to figure out when it’s draining valuable resources (including time and money!) to try and retain a customer who is likely never going to provide you with a return on that investment.
The main reason why knowing your CLV is important is so that you can stop wasting resources on customers who aren’t going to be profitable for your business.
Knowing your customer lifetime value is useful because it helps highlight the most valuable customers you have.
While you may not know who these customers are at first, you’ll start to notice patterns and be able to identify the customers who generate the most profit for your business.
This will help you understand whether or not certain marketing efforts are profitable for your business or if certain sales campaigns are driving a lot of business leads but not generating much revenue.
The more information you have about which customers are profitable for your business, the better idea you’ll have of how to focus your marketing efforts, sales campaigns, and services on the most profitable customers.
Knowing Your Customer Lifetime Value Helps You Understand Which Customers Are Worth Trying To Retain And Which Customers Are Worth Losing
Knowing your customer lifetime value is important for more than just understanding which customers are worth spending more resources on. Understanding your CLV will also help you determine which customers are worth trying to retain and which customers are worth letting go of.
As mentioned above, there are two sides to this concept: the side where you’re spending money (or time) to try and retain a customer who is likely not going to be profitable for your business and the side where you’re losing money in order to retain a customer who is likely not going to be profitable for your business.
The idea behind knowing your CLV is that it helps you understand which customers are worth spending more resources on (and trying harder to keep) and which customers aren’t (and should be let go of).
This will help you streamline support processes, sales processes, and other aspects of running your business so that you can focus on maximizing profit rather than wasting resources on unprofitable customers.
This is an especially important concept if you have a limited amount of time or money available since it allows you to better allocate these resources towards only the most profitable leads or orders instead of wasting them on unprofitable ones.
You can also use this information as a way of determining when it makes sense for your company to try harder (or stop trying at all) when it comes to retaining a customer.
This way, if someone isn’t worth retaining then it makes sense for you as a company not to waste additional energy or resources in order to keep them around since this will just cost additional money that could be put towards someone who does provide value in return.
In summary, knowing your CLV is important because it helps you understand which customers are worth spending more resources on (and trying harder to keep) and which customers aren’t (and should be let go of). This will help you streamline support processes, sales processes, and other aspects of running your business so that you can focus on maximizing profit rather than wasting resources on unprofitable customers.
About the Author
I am the Founder of Cudy Technologies (www.cudy.co), a full-stack EdTech startup helping teachers and students teach and learn better. I am also a mentor and angel investor in other Startups of my other interests (Proptech, Fintech, HRtech, Ride-hailing, C2C marketplaces and SaaS). You can also find me on Cudy for early-stage Startup Founder mentorship and advice.
You can connect with me on Linkedin (https://www.linkedin.com/in/alexanderlhk) and let me know that you are a reader of my Medium posts in your invitation message.