In marketing, customer lifetime value, or customer lifetime value is an estimation of the profit gained on a specific sale at the end of a business cycle. According to the most popular financial theorists, value can only be gained by increasing the marginal income, i.e., increase the sum total of sales over time, which is called marginal income. Other financial theorists consider value as the result of taking into account what consumers pay for a particular good in terms of their production and then comparing these costs with the value provided to them by the product. Still other marketing gurus believe that, as a matter of fact, customers do not perceive the costs of purchases until after they have been made, and that therefore the cost of a good cannot be assigned to a discrete economic activity.
The concept of customer lifetime value is highly sensitive to two concepts: the relationship between a firm and its customers, and the relationship between firms and their customers’ future cash flows. If a firm increases the prices of some goods, for example, its customers will feel the loss immediately, but their present and/or future cash flows will compensate for the loss, so long as these customers continue to buy from that firm. But if a firm temporarily raises the price of some goods, its customers will not be sufficiently compensated by their present and/or future cash flows to compensate for the loss until their prices return to their previous levels.
To properly assess customer lifetime value in terms of its relationship with customers, a firm must calculate three important quantities: per customer, per sale, and per customer cycle. By calculating the three quantities, one can calculate the value of each customer relationship. For instance, suppose a firm sells widgets to three hundred customers over five hundred consecutive customer cycles; at the end of the fifth customer cycle, the cumulative total of customer lifetime values due to five hundred customers is $300. Therefore, the firm must calculate the per customer cost of production, which is the value of one dollar of product per customer cycle multiplied by the number of customer cycles to arrive at the per customer cost of production.
The Firm’s Return on Investment or ROI, on the other hand, is an economic concept that compares the costs of providing a service or an item to the value of that service or item received by customers, divided by the number of total revenues achieved over time. Because an ecommerce site must generate a certain amount of revenue over time in order to break even, a firm’s Return on Investment, or ROI, is the most significant driver of an ecommerce firm’s success. A firm’s ROI, therefore, is the most crucial performance indicator for an accurate assessment of an ecommerce operation’s profitability. So the importance of choosing the right metrics, such as the FICO score of customer satisfaction, cannot be overemphasized.
Finally, net profit, or the difference between actual expense and potential gain, is the third important metric to use in an accurate evaluation of an ecommerce business’s profitability. Net profit is the total revenue less the total expenses incurred over one year. In order to measure profit effectively, it is important that a firm considers not only the current value of its products or services, but also the potential gain that it will realize through future sales. A firm can determine its present value using the FICO score, while its potential gain should be measured with the delta of expected sales over its existing cost base. By combining these three metrics, a firm can come up with its true or false definition of its current or true net worth.
A firm that wishes to calculate its true and false value of revenue through customer lifetime value can do so using the Customer Lifetime Value Estimator. This is a powerful tool that allows a firm to enter into agreements based on a revenue estimate provided by the calculator. To arrive at the true value of revenue, a firm will need to factor in future revenue through customer lifetime value. Thus, the Customer Lifetime Value Estimator enables firms to calculate their true and false revenue estimates over the course of a definite period, which may be five years, ten years, or twenty years. The Customer Lifetime Value Estimator can also be used to study the variation in revenues between different firms during different times of economic cycles.