Because returning customers spend 67% more, on average, than new customers, the true health of your retail business depends on the revenue derived from each person who continues to walk through your door.
But just how long will these customers continue to come back? A year? Five years? And just how much do you expect each of these customers to spend with your business during that time frame?
The key to understanding the long-term health of your brand is to look at your Customer Lifetime Value (CLV).
Why is CLV important?
Your Customer Lifetime Value is usually defined as the net profit you expect from a customer during their entire relationship with your retail store. Calculating your CLV is a handy way of distilling down the complex calculations of revenue and expenses relating specifically to a customer over many years, into a single monetary number.
As a use case, consider the estimated cost of new customer acquisition (call it X) relative to your CLV (call it Y). As long as X is less than Y, it makes financial sense to spend X to acquire the new customer, knowing that your business will recoup that cost, on average, due to the higher CLV number.
Similarly, knowing your CLV can help you put guide metrics around your investments in marketing & sales, whether you can sustain business at a certain churn rate, help gauge the health of customer loyalty, and much more.
How to calculate CLV?
Like many useful business metrics, the calculation of CLV can be as complicated as you want it to be. This is because the operative word here is value, which can encompass much more than just revenue. In fact, many businesses utilize LTR (lifetime revenue) instead of value because it is much easier to calculate how much revenue a customer will bring in on average over the course of a relationship.
CLV technically isn’t just about revenue, but factors in your net profit on a customer (which factors in expenses such as the cost of retention) as well as your churn rate (which factors in the customers you expect to lose), among other metrics.
Unfortunately, this leads to a fairly complicated equation:
We never said this business analytics thing was easy! There’s a reason why big businesses employ quants and math PhDs to calculate these types of metrics.
Luckily, your business can employ a much simpler version of CLV that uses LTR as its main metric to still pull valuable and actionable data:
CLV = Ave Order Value x Ave Number of Transactions (over a time period) x Ave Length of Relationship (as a multiple of that time period)
So if your retail store has an average order value of $30, and an average customer makes about 20 transactions a year, and the average relationship lasts about 5 years, then the CLV is $3000.
But now you see why context is important. This simple CLV only factors in revenue. For a bit more accuracy, you can add profit margin percentage into this equation as a proxy to your general expenses per customer. Since your profit margin factors in overhead costs, this can often provide a more nuanced CLV.
Say in the above example, your profit margin averages about 20%. Then $3000 x .20 = $600 as your CLV, which is a very different number. This is why the context of CLV calculation is so important: not all CLVs are the same!
The secret to increasing CLV
In all versions of CLV, simple to complex, you know your business is generally doing better the higher the metric goes. So how can you increase the lifetime value of your customer most effectively?
Looking at the simple CLV equation above, there are three levels your business can manipulate: order value, number of transactions, and length of relationship. Of the three, increasing the number of transactions is usually the hardest. After all, there are only so many days in a period of time where your customer can come into the store. (For ideas on increasing your retail traffic, check out our other blog article) Next, increasing your average order value can be difficult depending on the elasticity of your core consumers’ spend. A budget retailer can’t resort to simply increasing prices. (For ideas on increasing sales, check out our other blog article)
The secret to higher CLV? Increasing the length of the relationship. The customer doesn’t have to buy any more than they already do, nor spend any more money than they already do. They just need to remain loyal to your brand longer. That’s the CLV lever you can pull without increasing prices a penny.
We here at Endear are all about helping businesses improve, sustain, and lengthen their relationships with their customers. A robust Customer Relationship Management (CRM) tool can help drive engagement with personalized messaging that has shown to be 26x more effective than general email communications.
In fact, according to softwareadvice.com, 74% of surveyed businesses said that their CRM system delivered benefits such as improved access to customer data, improved relationship management, and increased customer retention. CRMs simply work to make customer relationships more “sticky,” due to offering better service overall.
In an upcoming blog article, we’ll get in-depth on how your business can increase the lifetime of your customer relationships. For now, if you’d like to try a demo of Endear’s CRM solution for free, click here.