a step by-step guide to calculating customer lifetime value

A Step-by-step Guide to Calculating Customer Lifetime Value (CLV)Prepared by: Geoff Fripp, Adjunct Marketing Lecturer

The University of Sydney

http://www.clv-calculator.com/


What is Customer Lifetime Value?• Customer lifetime value is a measure of customer

profitability over time• CLV can be defined as “a measure of a customer’s

aggregate profit to the firm over the total time that the customer deals with the firm”• CLV is calculated as a single dollar number, which

summarizes the net profit/loss position of the customer’s total relationship with the firm• It is calculated on per customer basis, but is more usually

determined for an the average customer within a particular market segment• A firm will calculate multiple CLV’s for different customer

segments

Two calculation methods

The Simple CLV Formula

THE FORMULAAnnual profit contribution per customer X

Average number of years that they remain a customer Less the initial cost of customer acquisition

WHAT INFORMATION DO WE NEED?1. Initial cost of customer acquisition

2. Annual profit contribution per customer3. Average customer retention rate

The CLV Calculation

We start with this information

We need to calculate this information

CLV Calculation: Step One

Average Acquisition Cost 500Average Customer Profit pa 1000Customer Retention Rate 75%Customer Churn Rate 25%Average Lifetime in Years ???

Simple CLV ???

Churn rate is 1 – retention rate

NOTE: Retention rate and churn (loss) rate always add to 100%

CLV Calculation: Step Two

SIMPLE CLV

Average Acquisition Cost 500Average Customer Profit pa 1000Customer Retention Rate 75%Customer Churn Rate 25%Average Lifetime in Years 4

Simple CLV ???

Average lifetime in years is 1 / churn rate

That is, the number of times the churn rate goes into 100%

CLV Calculation: Step Three

CLV is time/years X annual profit – acquisition cost

SIMPLE CLV

Average Acquisition Cost 500Average Customer Profit pa 1000Customer Retention Rate 75%Customer Churn Rate 25%Average Lifetime in Years 4

Simple CLV 3,500

EXAMPLE: 4 X $1,000 - $500

The Complete CLV Formula

THE FORMULAAnnual profit contribution per customer (for each year) X

The customer retention rate (for each year) lessThe initial cost of customer acquisition

With each year adjusted by an appropriate discount rate

WHAT INFORMATION DO WE NEED?1. Initial cost of customer acquisition

2. Annual revenue contribution per customer3. Annual direct costs per customer4. Annual customer retention rate

5. The discount rate to be used

Full CLV Calculation: StartCOMPLETE CLV Year 0 1 2 3 4 5

Average Acquisition Cost 500

Average Customer Revenue 500 1,000 1,500 2,000 2,500 Average Customer Costs 300 600 900 1,200 1,500 Average Customer Profit ??? ??? ??? ??? ???

Customer Retention Rate 100% 60% 65% 70% 75%Cumulative Retention Rate ??? ??? ??? ??? ???

Likely Customer Profit ??? ??? ??? ??? ???

Discount Rate 1 1.10 ??? ??? ??? ???

CLV - per year ??? ??? ??? ??? ??? ???Cumulative CLV ??? ??? ??? ??? ??? ???

We need to START with the figures in BLUE and we need to CALCULATE the figures in YELLOW

Customer Lifetime Value will be in the bottom-right GOLD cell

Full CLV Calculation: Step One

Average customer profit each year is simply average customer REVENUE less average customer COSTS

COMPLETE CLV Year 0 1 2 3 4 5


Average Customer Revenue 500 1,000 1,500 2,000 2,500 Average Customer Costs 300 600 900 1,200 1,500 Average Customer Profit 200 400 600 800 1,000

Customer Retention Rate 100% 60% 65% 70% 75%Cumulative Retention Rate ??? ??? ??? ??? ???


Discount Rate 1 1.10 ??? ??? ??? ???


Full CLV Calculation: Step TwoCOMPLETE CLV Year 0 1 2 3 4 5



Customer Retention Rate 100% 60% 65% 70% 75%Cumulative Retention Rate 100% 60% 39% 27% 20%


Discount Rate 1 1.10 ??? ??? ??? ???


Cumulative retention rate indicates the % probability of receiving the customer’s business (revenues and costs) in future years

Cumulative retention rate is the compounding effect of losing customersWe start with 100% of customers and we keep 60% in year 2. In year 3 we

keep 65% of those remaining, which is 65% of the 60% = 39%

Full CLV Calculation: Step Three

Likely customer profit each year = Average Customer Profit (in row 3) X Cumulative Retention Rate (% probability of the

customer still buying from our firm) Example for Year 3: $600 X 39% = $234





Likely Customer Profit 200 240 234 218 205

Discount Rate 1 1.10 ??? ??? ??? ???


Full CLV Calculation: Step Four

Future discount rates are compounded on a yearly basisIn this case, the discount rate is 10%

Future years are 1.1 X 1.1 = 1.21 X 1.1 = 1.33, and so on






Discount Rate 1 1.10 1.21 1.33 1.46 1.61


Full CLV Calculation: Step Five

Contribution to CLV on a yearly basis is the “likely customer profit” divided by the discount rate

For example, in year 3: profit = $234 / 1.33 = $176






Discount Rate 1 1.10 1.21 1.33 1.46 1.61

CLV - per year -500 182 198 176 149 127Cumulative CLV ??? ??? ??? ??? ??? ???

Full CLV Calculation: Step Six

Cumulative CLV is the running total of CLV per year

Our key CLV figure is in the GOLD cell = $332






Discount Rate 1 1.10 1.21 1.33 1.46 1.61

CLV - per year -500 182 198 176 149 127Cumulative CLV -500 -318 -120 56 205 332

Full CLV Calculation: Outcomes

CLV = $332 – which is a positive number – which is greatThis means that the $500 acquisition cost has generated good profits

for the firmAs a 10% discount rate has been used, the ROI on the marketing

investment is MORE than a 10% returnPayback on customer acquisition costs is delivered in Year 3






Discount Rate 1 1.10 1.21 1.33 1.46 1.61

CLV - per year -500 182 198 176 149 127Cumulative CLV -500 -318 -120 56 205 332

For lots more information…

Please visit www.clv-calculator.com

On this website you will find:

• A free Excel spreadsheet for calculating CLV as shown in this presentation• Quick CLV calculators

• Lots of CLV information and examples• Plus instructional videos




a step by-step guide to calculating customer lifetime value

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