In order to understand why Lifetime Customer Value is the most important overlooked metric let’s take ecommerce back to its roots in bricks and mortar retail and use an example from a small physical store.
Imagine you have a small bakery and you want to do some advertising. Across the road is a big sports club which organizes ten different newsletters for the ten different sports that it provides. You think that after sport, players will want a steak pie and so place an advert in the ten newsletters. Straight away you notice players wearing all sorts of kit coming into the bakery to snap up the special offer. However as soon as the special offer finishes you see that only the football and rugby players come back week after week and pay full price for a pie. So what do you do? You decide to cut back on all sports newsletter advertising apart from Rugby and Football. What's more you take out bigger adverts in these two newsletters and gain a great little pie business.
The above is a very simple story that shows the common sense of looking at Lifetime Value against lead source. The owner of the bakery can easily see where to advertise and who to. When we scale this into an ecommerce store with thousands of customers we can lose sight of this. Most ecommerce businesses rely on Google Analytics and most large Digital Agencies report on this basis too. Whilst this is essential to run an ecommerce store I think we've lost some critical data.
Let's work through the above bakery example and pretend that the bakery owner (you) have only Google Analytics to use to see if the advertising is working.
Google Analytics - you put the newsletter advert in and immediately see sales coming from each newsletter, great. You can see that most newsletters seem to convert at the same rate. After the offer finishes you can see some repeat business from some of the customers. However you have no idea that they are footballers and rugby players because all you can see is their email address. You have no data in Google Analytics tying an email address to a newsletter - so you have to continue to advertise in all newsletters.
Of course there are other ways of finding out where your best customers come from – by segmenting your data and surveying different segments to see how they found you - or asking at the checkout where they came from. These are good techniques but people forget and your best customers might be too busy to fill out surveys.
When we started looking at lifetime customer value, usually with a time period of one year we started spotting some interesting things about our clients:
1) Some customers bought a lot and very quickly.
2) Some customers who bought product X on their first visit tended to have a much higher lifetime value.
3) Some customers were really not worth courting at all.
4) The time between purchases varied hugely by lead source.
5) Customers recruited during a sale period acted very differently to customers who bought during normal periods.
As a recap Lifetime Customer Value can be worked out using the following formula:
LTCV = Average Order Value (AOV) x Amount of Purchases In Chosen Time Period
Take a women's clothing store running an AdWords campaign. Let's say they had an average order value on skirts of £100 and an average order value on jackets of £100 - both have cost per conversion (read cost per sale) of £30. Based on this information alone you would work out the margin on each garment to work out which was generating more profit. However if you track the lifetime value and find out that:
Lifetime Value 12 months Jacket - £250
Lifetime Value 12 months Skirts - £150
You now know that you can pay a lot more for an Adwords sale of a Jacket than you can a Skirt. Armed with this information you can outbid your competitors who are only using average order value to work out profitability. In effect you know something that your competition doesn't - this gives you an edge. You know what a customer is worth.
So what else are we missing?
Well as you can see from the LTCV formula, part of the equation is the 'amount of purchases in a chosen time period'. This is another metric that hardly anyone looks at, apart from on a per site basis. Why is this important? Well for a start if you roll out a new marketing channel or campaign and can see that on average people take 40 days to buy again, then you can work out based on your existing sales how long it will take to get ROI. This kind of information is essential for a company where the customer might make a small 'test' purchase before committing to a larger purchase later on.
What's more is that many businesses have a cut-off point i.e. if customers have not repeat purchased by a certain date they are very unlikely to buy ever again. Knowing this cut off point means you can use a 'lapsed customer' offer on this segment with the confidence that this will be incremental business and not those that would have bought anyway. However you need to know this cut off point by buyer type as buyers of e.g. skirts might take longer to repeat buy than buyers of jackets. If you don't know this and send a generic lapsed customer offer then you might be too late for the jacket buyers and too early for the skirt buyers.
Do you know the percentage of revenue from buyers that buy once, twice or more than three times? Often more than 30% of revenue comes from people who buy from you more than three times. Are you actively trying to grow that revenue? You should be, it’s much easier to convince a buyer who has bought three times already to buy again than to convince someone who has bought once to buy again. The multi-buyers already love you and you can recognize them and give them some love.
Taking this back to the small bakery example again where you would know your multi-buyers personally and you would encourage them to buy more by:
1) Offering to let them buy on credit (tab).
2) Greeting them warmly by name when they visit and asking after their family.
3) Making sure that if they had a complaint they went home with lots of free stuff and a happy face.
4) Asking their opinion on new products.
5) Offering them delivery options not available to other customers.
I know all the above because I grew up in a bakery! Whilst you cannot do all of the above with your 'premium customers' you can recognize them and make sure they feel important (through special delivery options, reward points, bespoke packaging, and personalized service).
Another important aspect of watching lifetime customer value is the critical information it can give you based on decisions like discounting. Discounting is like a drug - you get a high from lots of sales, but you don't know the long-term effects on your brand. If you are using discounting and watching your lifetime customer value you might see it reducing over time. You might find out that customers are buying less frequently and are not as high quality as before. The lifetime customer value gives you the feedback on how your marketing is 'training' your customers to behave.
Without it you are flying blind.
By Ian Hammersley at SmarteBusiness.
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