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is really about getting the metrics right and even on the fi rst order (because the historical
ensuring that the new customers you’re performance of your database shows that
recruiting are profi table within a timeframe customers carry on spending after their fi rst
your business can support fi nancially. And you order, and you can measure the patterns), then
can’t do that if you don’t know what a customer you’d have more confi dence to set a benchmark
By failing to
is worth to your business going forward. of up to three months to break even. This
Businesses that understand the lifetime enables you to increase your allowable CPA or
value of their customers have a competitive reduce your required response rate, which in
understand
advantage, because they know what they’re turn opens up new opportunities to acquire
willing to spend to get a new customer, and they additional customers.
lifetime value,
constantly measure the ongoing performance The single most important determinant of
of these new customers. your growth is the universe of potential new
you could
customers you can attract and convert. What
Payback versus CPA you are able to spend to get a new customer
The traditional method of measuring is a major factor in this. The more you’re able fi nd yourself
acquisition marketing is cost per acquisition to spend per new customer (while achieving a
(CPA). In other words, if you spend £1,000 in profi t at some point), the more new customers
spending
acquisition marketing and it delivers 50 in new you can acquire, and the faster your business
customers, your CPA equals £20. From a pure can grow.
profi tability perspective, however, this metric
far more on
does not give the full picture. It ignores the Taking measure
fact that often the best customers, those with Measuring lifetime value is not that
recruiting
the highest LTV, are not the cheapest to recruit. diffi cult. Essentially you have to group your
Measuring payback is far more relevant. It customers into cohorts (people who have
ignores CPA as a straight unpolluted measure similar characteristics or behaviours) and
customers than
and looks at total profi t to the business after then measure the cumulative value of those
recruitment costs. Payback recognises that customers from recruitment over different
they’ll ever
different types of customers have different periods of time.
lifetime values. Customers who are recruited One measure to look at is LTV by month
with a discount offer, for instance, may have a of recruitment. Create cohorts of customers
deliver in profi t
lower lifetime value than those who come in by recruitment month: January 07, February
without a special offer. Those who purchase 07, March 07, all the way through to the
online may have a different LTV than those current month. Then for each cohort, measure
who order via phone. There are many variables the cumulative revenue delivered by those
to test: geodemographic profi le, company size, customers. If you recruited 1,000 new customers deliver a low LTV, you can tailor your activity
product category. I can’t profess to know what in January 2007, calculate what they spent in to reduce recruitment by those means or to
the variables will be for your business, but I can their month of recruitment, then calculate what make sure that your CPA via those channels is
tell you that you need to understand them. they spent every month since. less than your average CPA. You can also use
With that information you can determine Now, clearly not all customers buy again this information to feed into any propensity
whether the customers you’ve recruited have after their initial purchase, but that’s okay modelling you create for mailings and other
delivered enough profi t to your business to because the LTV calculation takes into account activities.
cover the marketing cost of recruiting them. If that sometimes 30 percent, 40 percent, or 50 What I hope I’ve shown is that
they haven’t delivered that profi t in their fi rst percent of your customers will never come understanding lifetime value is one of the
order or fi rst month, using LTV analysis enables back. Over any period of time—one month, critical measures you need to understand your
you to predict when they will. Let’s say it costs two months, three months, six months, or 12 business. This knowledge will empower you to
you 10 percent more to recruit customer B than months—divide the total revenue from the make better decisions, and we all know that
customer A. If, however, customer B’s average cohort by the numbers in the cohort to get a the companies that do best are the ones that
order value or frequency of order or loyalty is lifetime value per customer at certain periods understand the most about their customers,
better than that of customer A, you may fi nd of time. You can use the same methodology for their customers’ behaviours, and their own
that customer B delivers profi t far quicker than any variable you like, such as type of product business metrics.
customer A. initially bought or channel of recruitment.
The payback approach starts to consider There are many practical applications for
customers as assets. It recognises that if, for understanding LTV. If you recognise that
Kevin McSpadden is cofounder
example, the business can afford to not break customers who are recruited by certain media of marketing agency More2.
ceb 170.indd 17 26/10/09 19:19:21
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