eCommerce KPI metrics: LTV Customer LifeTime Value, how to optimize it

Welcome to the new column dedicated to the fundamental metrics and KPIs for eCommerce and for a business in general. It will be a monthly event curated by our Dario Manduca, founder and Head of Online in Profession Business. The first appointment is dedicated to a metric that we care a lot about, we have grown fond of how much it can influence a business, both negatively and positively (if you follow the instructions, it can only help you!)

This is Customer Life-Time Value (LTV), a crucial metric for any business, online or offline. It represents the total value that a customer brings throughout their relationship with the company. Knowing and optimizing the LTV is essential to improve the profitability and sustainability of the business.

What is Life-Time Value (LTV)?

Lifetime Value (LTV) is an estimate of the revenue generated by the entire relationship with a customer. It therefore represents the economic value that a customer generates during his interaction with the company.

Why is LTV Important?

The success of a company does not only depend on the acquisition of new customers, but above all on maintaining and growing the value of existing customers. LTV helps to:

• Evaluate customer profitability.
• Plan effective marketing strategies.
• Optimize customer acquisition and retention costs.

How is Customer LTV Calculated?

A simple formula to calculate LTV is:

 LTV = Average Purchase Value x Average Purchase Frequency x Average Customer Life

Practical Example

Suppose an e-commerce store has the following data:

• Average Purchase Value: CHF 50.-
• Average Purchase Frequency: 3 purchases per year
• Average Customer Life: 2 years

Let's calculate the average customer lifetime value in this eCommerce:

 LTV = 50 x 3 x 2 = CHF 300.- 

What is Customer Acquisition Cost (CAC)?

Customer Acquisition Cost (CAC) represents the average investment a company must make to acquire a new customer. Includes all expenses for marketing, sales and other related activities.

CAC formula

 CAC = Total Acquisition Cost / Number of New Customers Acquired

For example, if a company spends CHF 10'000.- on marketing in a month and acquires 100 new customers, the CAC will be:

 CAC = 10'000 / 100 = CHF 100.-

Relationship between LTV and CAC

A key analysis to evaluate the sustainability and profitability of a company is to compare the LTV with the CAC. Ideally, the LTV should be "at least" three times higher than the CAC. This ratio indicates that the investment made to acquire a customer is recovered and multiplied over the life of the customer relationship.
If the Lifetime Value of our customers is lower than the CAC, we have a critical issue to face and resolve as soon as possible, ignoring it could lead to major failures.

Importance of the LTV/CAC Ratio

• Profitability Assessment: A high LTV/CAC ratio indicates that customers generate more value than acquisition costs.
• Marketing Strategy Optimization: Helps identify whether acquisition strategies are efficient and profitable.
• Business Sustainability: A favorable LTV/CAC ratio indicates a sustainable business model in the long term.

How to Monitor LTV and CAC

Monitoring LTV and CAC regularly, ideally every month or quarter, is essential to detect any changes early and adopt corrective strategies. Use advanced analytics tools such as Google Analytics, corporate CRMs and BI (Business Intelligence) platforms to monitor and analyze customer data.

Benefits of a High Customer LTV

• Greater Profitability: Customers generate more value over time.
• Lower Marketing Costs: Keeping existing customers is less expensive than acquiring new ones.
• Better Cash Flow Forecasts: LTV allows for more accurate financial forecasts.
• Better Strategic Planning: Knowing the LTV helps plan long-term strategies.

Disadvantages of Neglecting LTV

• Higher Acquisition Costs: Acquiring new customers without understanding their true value can be costly.
• Low Customer Loyalty: Without a focus on LTV, loyalty strategies can be ineffective.
• Poor Profitability: Ignoring LTV can lead to poor investment decisions.

Examples of Great Customer Lifecycle Value

• Amazon, Excellent Customer Experience and Prime Program: Amazon has built an incredible customer experience through exceptional customer service, fast delivery and an intuitive user interface. The Amazon Prime program, with benefits such as free shipping, access to video and music streaming, and exclusive offers, significantly increases customer lifetime value. This program incentivizes customers to make frequent purchases, increasing their loyalty and the overall value generated.
• Apple, High Product Quality and Strong Ecosystem: Apple is renowned for its high-quality products, such as iPhone, iPad and MacBook. Apple's closed ecosystem creates an integrated, seamless experience across devices and services. This incentivizes customers to stay within the Apple ecosystem, purchasing new products and services over time, thus increasing their lifetime value.
• Netflix, personalization and high retention: Netflix uses advanced algorithms to personalize the user experience, suggesting content based on customers' preferences and viewing behaviors. This personalization increases user engagement and satisfaction, leading to high retention. Furthermore, constantly updating the catalog and investing in original content keeps subscribers interested, extending the life of their subscription and increasing customer lifetime value.

What does "high retention" mean?

“High retention” refers to a company's ability to retain its customers over time. High retention indicates that customers continue to use a company's products or services for long periods, showing loyalty and satisfaction. This is particularly important for customer lifetime value (LTV), as customers who remain loyal generate consistent, recurring revenue, contributing to business sustainability and growth.

Actions to Improve LTV

• Improve Customer Service: Excellent customer service increases loyalty, reduces abandonment rates and improves the overall customer experience. Investing in fast and efficient customer service can make all the difference in customer retention.
• Loyalty Programs: Offer exclusive benefits and experiences to loyal customers. Loyalty programs such as discounts, bonus points and special offers encourage customers to remain loyal to the brand and increase their lifetime value.
• Upselling and Cross-Selling: Offer additional products/services to existing customers. Upselling and cross-selling are effective strategies to increase the average value of purchases and, consequently, LTV.
• Personalization: Use data to personalize the offer. Analyzing data on customer behavior and preferences allows you to create tailor-made offers, improving satisfaction and loyalty.
• Regular communication: Maintain ongoing contact with customers through newsletters, promotions and updates. Regular communication keeps the brand in the minds of customers and strengthens the relationship with them.

Conclusion, Customer Lifetime Value essential for companies

Life-Time Value is essential for the sustainable and profitable growth of a company. Implementing strategies to improve LTV can lead to significant long-term benefits. Knowing your customers' LTV allows you to make informed and strategic choices for the future of your business.

Start with this question, do you know the Customer Lifetime Value of your customers?

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