In business, customer lifetime value is an estimation of the overall profit made by the sales of a given company per customer. The concept of customer lifetime value was introduced by Price Waterhouse Coopers (PWC) in 1969. This concept is the mainframe of many business concepts such as profit and loss allocation, return on equity, and customer loyalty modeling. Other related concepts are profit and loss analysis, cost of sales, customer satisfaction, and more.
Now that we have the fundamentals, let us move into the methodology. The calculation of customer lifetime value is based on two different but equally important economic concepts: present value and future value. Present value refers to what a customer can buy today at the current price. On the other hand, future value refers to what the customer can buy at a certain date in the future. Basically, this concept is used to determine whether a company has made any profit or not, whether they are gaining customers, and if their market share is still intact.
The first step to calculate customer lifetime value is to determine the average order value or average customer lifespan. This refers to the number of sales per customer per year. To arrive at this number, divide the total number of sales by the number of years in which a customer stays with a company. The next step is to multiply the average order value or average customer lifespan by the number of years in which a customer stayed with a company. This would give a percentage, such as a ratio.
A good example of a complex metric is the CLV metric. The CLV is the average lifetime value of loyal customers. However, this metric is a bit complicated since it takes into account many factors. One of these factors is current and past customer loyalty. In addition to this, it takes into consideration how long a customer remains loyal or not, the type of customer (for example, a client/agent or an executive), and the importance of that customer to the organization. The CLV is therefore a complex metric that should be studied closely.
The third step is to consider the profitability of a company. Companies often use different metrics to arrive at the profitability of a company. These include the gross profit margin, gross revenue per unit, cost of goods sold, and the gross margin percentage. These three numbers can be used to calculate the profitability of a company. The CLV is not a very difficult metric to calculate; however, it cannot be compared directly with the above factors because it takes into account not only the customers who stay with a company but also those who leave. This means that the discount rate cannot be calculated directly with the other factors.
There is one metric that can be used in the calculation of customer lifetime value and that is the average sale price of all products sold by the company. This can be done by dividing the gross profit of a company by its average sale price per item and then multiplying this number with the number of frequent purchases that a customer makes. For instance, if a customer buys a toothbrush ten times, that person will have made several hundred dollars in profit for the company. Therefore, a company that has high-value customers who purchase a lot of products from the company will have high-profit companies and a company that have high-value customers who make few frequent purchases will have low-profit companies.