Financial planning is a dreaded part of being an eCommerce leader, but if done right, it could be the difference between succeeding and understanding your customers… or not. Understanding metrics like Customer Lifetime Value (CLV) and Customer Acquisition Cost (CAC) can make all the difference. When you know how much a customer is worth to your business and how much it costs to acquire them, you'll have a clearer path to profitability and growth.
What is Customer Lifetime Value (CLV) and How to Calculate It
Customer Lifetime Value (CLV) is the total net value a customer brings to your business over their lifetime. By factoring in both revenue and retention costs, you get a comprehensive view of each customer's contribution to your business.
Here is your formula for calculating Customer Lifetime Value:
Let’s say, for example, that your average sale price (or average order value) is £50, and a customer purchases from you five times a year, with an average retention of three years, that customer's CLV is £750. What does that mean? Over three years, each customer is worth £750 to your business.
This calculation allows you to assess the long-term value of each customer and decide whether you need to focus on increasing their lifetime value through improved retention strategies.
Why CLV Alone Isn't Enough: The Role of Customer Acquisition Cost (CAC)
While CLV provides insight into the value customers bring, Customer Acquisition Cost (CAC) reveals how much you spend to acquire them. CAC includes expenses related to marketing, advertising, and sales efforts aimed at attracting new customers.
How to calculate CAC:
Here is your formula for calculating CAC:
In this instance, if your sales and marketing costs for a specific period are £10,000 and you acquired 100 new customers during that period, your CAC would be £100. This means it costs you £100 to acquire a new customer.
This formula will help you understand all that goes into acquiring customers, but not really in keeping them around. If you had £10,000 and a workforce to put towards CAC, but not actively focusing on the growth of your CLV, your cost of acquisition could be equal to or even more than your CLV — leading to customers costing you more money than they bring in.
CLV v CAC: Why They're Both Crucial for eCommerce Brands
Balancing CLV and CAC is essential for eCommerce success. If your CAC exceeds your CLV, you're spending more to acquire customers than they're worth. And this threatens your profitabiility.
In these cases, brands should focus on increasing CLV through retention strategies rather than solely reducing CAC. Even though acquisition costs might be high, improving the long-term value of your customers can balance the equation.
What's the Ideal CLV to CAC Ratio
Typically, an excellent CLV:CAC ratio is 3.1. This means that for every £1 spent acquiring a new customer, you should receive £3 in return over their lifetime. If your ratio is lower than this, it's time to optimise your strategy - particularly focusing on increasing CLV through better customer retention.
One of the most important things to remember when calculating and deciphering your CLV and CAC is that they should be used in conjunction with each other. While CAC helps you understand the cost of acquiring new customers, CLV will help you understand how valuable your customers are and whether there is a problem underlying your Conversion Rate.
Combining the two will help you make data-driven decisions regarding your strategy and optimise your investment. You’ll also be able to identify patterns and trends in your customer base.
If you notice that your CLV is higher for specific customer segments or product lines, you can focus your customer acquisition efforts on those segments or promote those product lines. Additionally, you’ll also be able to narrow down your pricing strategy by determining what’s missing and implementing changes that will increase your ratio.
Key Focus Areas to Improve CLV
1. Invest in Retention Strategies
Boosting your CLV often starts with effective customer retention efforts. Loyalty programs, personalised marketing, and exceptional customer service can help extend customer relationships and increase value.
2. Use Data to Inform your Strategy
Understanding which customer segments have a higher CLV allows you to allocate resources more effectively. With tools like Google Analytics and Klaviyo, you can track customer behaviour and make data-driven decisions to improve your retention strategies.
3. Enhance Customer Experience to Drive Value
Improving your product offerings, upselling relevant items, and enhancing the overall customer experience can all contribute to boosting CLV, ensuring long-term growth for your Shopify store.
Blend Commerce: How We Help Shopify Brands Optimise CLV
At Blend Commerce, we specialise in helping Shopify brands boost Customer Lifetime Value through proven strategies that focus on customer retention and experience. With our expertise in CRO Plus, we’ll help you optimise your store for higher conversions and longer-lasting customer relationships.
If you’re looking to maximize the value of your existing customer base, get in touch with Blend Commerce today.
Published: January 26, 2023
Last updated: October 21, 2024
