Steve Jobs returned to Apple in 1997 when the company was facing crippling financial losses. At the time, Apple had record-low stock prices and was referred to as “one of the biggest failure stories of Wall Street.”
Apple went through a complete revolution under Jobs. They canceled 70% of their product lines, cut 3,000 jobs, reinvented product design, and invested in a marketing campaign that provoked an emotional bond between the brand and its loyal customers.
Steve Jobs’ intention was to increase Customer Lifetime Value, an important metric that has a direct impact on profitability, taking Apple from imminent bankruptcy to the world’s most valuable company. The company still uses this strategy today.
Customer Lifetime Value (LTV or CLV for short) is the amount of gross profit (profit before marketing spend) gained from your average customer during the entire lifetime that she is a customer.
It’s a measurement of the financial value of your customers, taking into account average profit margin, how often your average customer buys from you, and how much they spend on each purchase.
Apple’s Customer Lifetime Value is even higher today than it was in Jobs’s time as they “lock in” their customers, bringing them back time and time again, partly because they’re used to the product interface and empathize with the brand, partly because of services that only work with Apple devices, such as iTunes, App Store, Facetime, iCloud, and Siri.
Apple is only the most famous example of companies whose focus on Customer Lifetime Value pays off. We frequently see the same pattern among successful online stores when analyzing thousands of ecommerce companies they measure and benchmark their companies by LTV.
If you’re an e-commerce entrepreneur or manage an online store, read on to learn more about how to calculate Customer Lifetime Value and use it to increase your online store’s profits.
How to Calculate Customer Lifetime Value
There’s no one way to calculate Customer Lifetime Value, the most complete formulas taking even inflation into account, but the most important variables in any LTV calculation are:
LTV = Average Transaction Value X Gross Profit Margin X Repeat Purchases
The above formula will give you a ballpark figure, enough to guide your management decisions. Each of the above terms can be explained as:
- Average Transaction Value: The amount an average customer spends in your store each time they make a purchase.
- Average Gross Profit: The average profit you make per item sold, before taking marketing expenses into account.
- Repeat Purchases: The number of times your average customer buys from you during the time she’s a customer.
If the average amount each customer spends in your store is $100, for instance, your average gross profit margin is 20% and, on average, customers buy from you three times, your LTV is $100 X 0.20 X 3 = $60.
Once you know your LTV, you can plan your marketing costs effectively. If your LTV is $60 and you spend $40 dollars per customer acquired, you make a $20 profit per client.
You need to do the math to figure it out. We calculate and know our LTV, making it easier to focus on marketing.
How to use Customer Lifetime Value to turn a Profit
It’s good to have your LTV in mind when you’re making management decisions, such as choosing how to allocate marketing budgets, what type of customers to attract, and which products you should be selling.
Follow Apple’s example by narrowing your focus, investing in customer retention, and cutting out products that bring poor profitability and you will experience an exponential growth in LTV and profit margin.
How can you increase Customer Lifetime Value? Use specific tactics for each element in the basic LTV formula. These will help you increase your LTV and, consequently, profits. Here are a few ideas:
- Average Transaction Value: Upselling apps, cleverly suggest additional items to your customers before checkout, increasing Average Transaction Value.
- Gross Profit Margin: Invest in your brand to improve the image and reputation of your store. As a respected brand, you’ll be able to charge more for your products, increasing Gross Profit Margin.
- Repeat Purchases: Bring past customers back to your store by offering loyalty programs or email marketing campaigns to improve Repeat Purchases.
Understanding Customer Lifetime Value will help you make better management decisions, such as choosing where to invest marketing dollars, what products to sell, and which customer segments to target.
Steve Jobs’ genius was that he based his decisions on the principles of simplicity and profitability. Focusing on fewer and improved products allowed Apple to increase prices and make higher Gross Profits. They also added complimentary products to their offerings, such as covers and accessories, and services, such as Itunes and iCloud, that helped increase Average Transaction Value and Repeat Purchases.
By taking LTV into account in his decision making, Jobs had clarity in his thinking, which lead to better decisions and increased profitability of his brand. The same can be done for your online store. All you need to do is focus your management decisions on what brings higher Customer Lifetime Value.