For your business to flourish, you have to ensure that your company’s customer Life Time Value (LTV) is higher than the Customer Acquisition Cost or CAC. What does this mean? It means that you need to make a profit that surpasses the money you use to acquire each customer.
If you notice that your cost per acquisition is at any point higher than your Customer Lifetime Value, then there is a problem. And if you don’t find a way to address it, you stand to lose a lot of money.
Unfortunately, balancing the LTV and CAC can be quite daunting. It is a challenge that affects many companies. However, there is a lot that you can do to strike the right balance and run a profitable business.
How to calculate Customer Life Time Value
A lifetime value refers to the profit you get from a customer for as long as they’re your client. For example, a customer may come back to your store four times. If this customer spends $100 each time, and your profit margin for each sale stands at 10 % ($10), then your Customer Lifetime Value is $ 40.
The higher your LTV is, the more resources you’ll have to attract your customers. This will translate to a higher profit margin.
Examples of Best Practices Customer Lifetime Value and Retention
Businesses that attain a high customer retention rate are undoubtedly more successful. This can be attributed to the fact that the more the customers keep coming back. Such businesses enjoy a relatively higher Customer Lifetime Value. Below are some renowned companies that have some of the best LTV and retention practices;
§ Zappos boasts of excellent customer service. This has enabled it to garner an incredible customer retention rate, which is more desirable to the customers. And as they keep coming back, Zappos maintains a high LTV.
§ Amazon offers a wide variety of products. For this reason, it reaps tremendous benefits from cross-selling and up-selling. Its customers keep coming back for different products and as a result, the company enjoys a healthy LTV.
§ If you are a Netflix enthusiast, then you are among its over 150 million subscribers. Netflix has an intriguing recommendation engine that keeps offering various entertainment options to its subscribers, and they just can’t seem to have enough. As they pay to keep their subscription active, Netflix LTV grows exponentially.
Why the ratio between CAC and LTV is critical for your business
As we said earlier, Customer Acquisition Cost refers to the amount of money you spend to acquire a new client. For instance, if you pay $1 to acquire one customer, and you bring 10 new customers who buy from your store on-board, your CAC would be $10.
In regards to the illustration above, a business with a Customer Life Time Value of $40 will have a $30 profit. However, the CAC has to remain $10. This is a great margin if the business has a significant sales volume.
If a customer comes back to this shop numerous times buying more products each time, the profit becomes much bigger.
For those who have attempted using various marketing channels online, then you must have realized just how challenging it is to keep your CAC down.
When running a business, it is imperative that you focus on customer retention. It is the only way that you’ll be able to strike a good balance between your LTV and CAC.
Tips to improve your customer retention
§ Offer exceptional customer service. This will ensure that your customers are satisfied. Happy customers have a higher likelihood of returning for more purchases.
§ Another method you can use to improve your customer retention is through a well-structured recommendation engine and an automated email system. You can use this system strategically to offer customized offers to your clients.
§ Analyze your data to come up with formidable customer retention strategies.
When your business faces customer retention challenges, it's best to start evaluating your CAC/LTV. The progress of your company depends on it. Once you iron out these issues, there is no reason why your business shouldn’t be profitable.