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July 25, 2011

The CLV Advantage

by fnbrinc

Customer Lifetime Value (CLV) is the total amount of money a customer spends with you during the time he/she remains a customer.

For instance, let’s say your average order is $100. Your average customer orders four times a year and remains a customer for three years. The average CLV is $100 x 4 x 3 = $1,200.The CLV Advantage

For services with an annual subscription, the formula for calculating CLV is: CLV = [1 ÷ (1 – Renewal Rate)] x annual fee.  If you sell a 1-year gym membership for $500 and your renewal rate is 80 percent then your CLV is $2,500. [1 ÷ (1 – 0.8)] x 500 = $2,500

Once your CLV is known, one of the most important marketing questions to work through is, “How much are we willing to invest to secure a new customer based on our average CLV?”

In our gym example, say the owner of Tiny Tim’s gym only knows that the annual membership is $500, and hasn’t calculated CLV. He’s willing to invest $100 in marketing to gain a member, because he figures that leaves him $400 in profit.

But the owner of Mighty Moe’s gym has calculated the CLV at $2,500. He’s willing to invest $500 in marketing to gain a member because that will leave him a profit of $2,000 over the lifetime of that customer. Armed with his CLV knowledge, he outspends Tiny Tim’s gym five to one and dominates the market.

Knowing CLV is a big competitive advantage because it gives you a more accurate picture of what you can afford to spend to acquire new customers.

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