You may have heard the opinion that it costs 5-7 times more to acquire a new customer than it does to retain an existing one. This myth has origins. Back in the 1980s, some researchers stated that the cost of customer acquisition was much higher than the cost of customer retention. This is not entirely true.
If you try to find a single linked authoritative source that supports this ‘five to seven times more expensive’ idea, the chances are you won’t find it. One of the assumptions is that it was designed to sell loyalty programs.
In this article, we’ll explore more about the customer lifetime value (LTV) metric and how we can use it to make smart data-driven decisions.
What Is LTV?
LTV is a metric that shows how much profit you can make from one customer over the time of having a business relationship with the average customer. The customer lifetime value typically accounts for customer acquisition costs (CAC) that include sales and marketing expenses, operating expenses, etc.
Simply out, customer lifetime value allows you to measure the net revenue your business can make from a customer. Using this data, you can categorize your customer segments regarding their value for your business and decide on what to invest in.
Why determining LTV is important
One of the biggest reasons startups die is because their customer acquisition costs are much higher than their customer lifetime value. That may happen because a lot of businesses do not invest in the customer experience that happens after the conversion or purchase.
Making the product better should be your priority. But if you’re not also focusing on ways to make our customer journey better and marketing to people who already bought from you, the cost of acquisition can be higher than customer LTV. What you need to do is to create balance in your business model and offset the unavoidable high-cost factors that go along with running a business.
Determining your customer acquisition costs (CAC)
As we’ve mentioned, LTV should be compared to CAC (customer acquisition costs). The simplest way to find CAC is to divide the total amount of marketing, sales, and other expenses related to customer acquisition by the number of customers who come from those efforts. This may be an overly simplistic approach to the entire process, but you can at least start there.
If you want to get deeper than, here are some caveats:
- On average, it takes about 60 days for a prospective to become a customer.
- Take into account that not all customers are new, some of them are returning.
There are also key questions we recommend you to ask yourself:
- How long does it take between marketing or sales touchpoints and becoming a customer?
- What expenses do you include in customer acquisition costs? Some companies do not include the salaries of marketing and sales teams. That’s a huge mistake.
Calculating your customer retention rate
Paying enough attention to your customer retention rates is a must-do. Why? Before you can calculate customer LTV, you need to have a clear idea of how long customers are sticking around.
To calculate your customer retention rate, you need to know:
- How many customers you have at the end of the period (X);
- How many customers you can acquire during a certain period (Y);
- How many customers you have at the start of the period (Z).
The formula of customer retention rate is:
CRR = ((X-Y)/Z)*100
To make things a bit simpler, let’s see an example. You started the month with 100 customers, you lost 10 customers but acquired 40 customers. When the period was over you had 120.
Using the formula we’ve got ((120-40)/100)*100. So you have an 80% retention rate.
How to improve LTV and customer retention?
Here are some proven tactics to increase your average LTV and retention as well as generate more revenue from your existing customers.
1. Improve the onboarding process
To ensure sustainable business growth, you need to make the onboarding process as simple as possible. It should be among your top priorities as poor onboarding is one of the most popular reasons for low retention.
Onboarding is the touchpoint when your customer engages with your product and decides whether the product can be valuable for him. It’s extremely important to work hard on the onboarding process to encourage users to come back which increases LTV to your company. You can simplify the onboarding with guides, how-to videos, tutorials, and other content that help customers.
2. Provide valuable content
Email marketing is one of the best working ways to retain customers, but many businesses do not make the most of it. Running automated email campaigns without offering any value is not what we mean here.
Emails that you send to your leads and customers should emphasize your product or service value. For instance, you can send a weekly or monthly email reminder telling customers how much money you’ve helped them save this month. You can also tell about your new products, offers, discounts, bonuses, etc.
Educational content also works great. This is the moment when you need to focus on specific customer needs or pain points and address them with your product or service.
For this purpose, you can map the customer journey and identify the touchpoints.
3. Offer high-end customer service
Quality customer service is everything these days. Making your customers buy something from you is not enough. Look at your retention rate. If it is low (less than 20%), consider improving your customer service.
As a business, it’s important to be active on as various channels as possible. Research what channels your target audience uses most. Here’s the insight: they may be more active on Telegram, Twitter, or Facebook while you only offer email and phone support.