One of the greatest mistakes I see small business owners make is in not recognising the REAL value of one customer. They see a customer’s value to their business as being the profit that they secure on the initial sale.
The truth is it’s so much more than that. Understanding the power and the value of each customer that walks into your business, can literally double your profits in as little as three months.
It gives you a new perspective on …
a. how much you can really afford to spend to attract a new customer.
b. how valuable it is spending time nurturing your relationship with your existing customers.
But before we look at the profit opportunities, let’s first consider how much a customer is worth to you.
The Lifetime Value (or marginal net worth) is a calculation that shows how much a client is worth to your business over the period of time that they do business with you.
Knowing what this figure is enables you to determine how profitable each customer is for your business, as well as how much you can profitably spend to acquire a new customer. In other words, what your break-even point is.
To work out what the Lifetime value of a customer the first thing you need to do is to multiply:
the average period of time that a customer continues to do business with you
the average net profit you make per customer per year
… consider the value of customers that they refer to you.
For instance, you might find that your “A” clients refer 1 client to you every two years. This then need to be factored in to your Lifetime Value equation.
Here’s an example – a graphic design firm.
Clients stay with the firm for approximately 4 years. Each year clients contribute $327 to the profit of the firm. They stay with the firm for approximately 4 years and they refer .5 customers over that period of time.
Here’s how we calculate lifetime value or marginal net worth:
(average period of time) = 4 years
(average net profit per customer per year ) $327
No. of customer they refer over that period = .5
(lifetime (raw)value of a customer ) $1308
B = $654
A ($1308) + B ($654) = C Lifetime Value ($1962)
Of course, when calculating this figure you might also want to take into account things like inflation and price increases, but this above equation gives you a basic understanding of how the lifetime value principle works.
So – in this example, the lifetime value of one customer when you take into account referrals is $1962.
Here’s another way to arrive at that figure …
$109 (Average net profit per sale) x 3 (no. of purchases per year) x 4 (no. of years they stay)
From there you then make allowances for referrals. For instance if each customer refers half a customer to the business over that 3 year period you’d then multiply the above lifetime value figure x the .5 figure and then add it back.
To work out your lifetime value is:
… your average sale or average gross profit multiplied by the number of purchases per year, by the average number of years they stay with you equals the lifetime value of a customer.
That means that theoretically a company can afford to spend $1961 to acquire each new customer and still be in front.
Interesting, isn’t it!
5 ways to profit from lifetime value in your business
1. Tap Into More Profitable Advertising Opportunities
Here’s an example involving a car paint repair business:
This business offers a mobile service where they visit people’s homes as well as car dealerships and repair paint chips and scratches on the vehicles as well as yellowed headlights, hub caps and wipers. The service they offer is so extraordinary the vehicles look almost as good as showroom condition.
To attract new business in the domestic market, this business mainly used flyers, which they found weren’t working very effectively.
They were initially reluctant to invest money in improving the quality and the design of the flyers because they were concerned that the added costs would hurt profitability instead of improving it.
We spent some time working out the lifetime value of each customer for this paint chip repair business and the results were quite staggering:
- each customer spent approximately $150 with them
- the gross profit on each sale was $120
- on average, a customer stayed with the business for approximately 2 years and made 1 purchase per year
- during that 2 year period they usually referred one customer each
Currently, the flyers were costing them approximately $800 for every 10,000 flyers they distributed. Their response rate was 0.2% which produced 20 sales delivering a total revenue of $3000.
They were considering changing the format of the flyers so the cost would increase to $2,400 per 10,000 flyers. This worried them.
We also recommended that they include a $20 gift cheque with each flyer which would mean that their profit per sale would reduce to $100 instead of $120.
With the increased mailing production costs together with the discount, the business owner was a little worried that this new initiative might end up costing them money.
We did some calculations and this is what we found:
- We determined that the lifetime value of each customer (including the discount) is $460
- $120 (gross profit per year) X 2 (average no. of years they stay) = $240
- We then added in the effect of referrals
So with each customer referring one person over that 2 year period that worked out to be:
- $240 (lifetime value) + $240 (lifetime value of referred customer) = $480
From that figure we subtracted the $20 discount which brought the overall figure to $460.
That means that this paint chip repair business could afford to spend as much as $459 to acquire each new customer and still be $1 in front per customer.
At the old mailing cost of $800 per 10,000 flyers, the business owner needed just 2 sales to break even. They were currently making 20 sales at a cost of $40 per sale.
With the new mailing, it would now cost them $2400 per 10,000 flyers. This was a big jump in costs so in the paint chip repairer’s mind it was vital that these new advertising measures worked.
If they didn’t, their cost per sale would skyrocket to $120 per sale which meant they’d make nothing on that initial sale.
Understandably, the business owner was a little nervous. But then we factored in the lifetime value of $460 per customer. When we did that, we worked out that even if the new campaign didn’t produce an increase in responses, the customer was still making a healthy profit from the campaign.
But we were convinced that by making the flyer punchier, the sales increases would be massive.
The old flyer wasn’t eye catching and didn’t have a powerful offer.
The new flyer on the other hand, had a unique format that had already proven to produce amazing results with other businesses.
It also had an eye-catching benefit-focused headline as well as an eye-catching, cheque-type discount voucher.
Not only that, the body copy also talked in WII-FM (benefit-oriented language – “What’s In It For Me?”) and it had a professional, much easier to read design.
So did the new flyers work?
Yes, they did. They generated a staggering 4.7% response rate from the 10,000 flyers that were letterbox dropped, which produced 470 sales with gross profit of $47,000.
The business owner was initially concerned that the cost per sale might increase significantly with this new marketing campaign. To his delight, it actually reduced from $40 per sale to around $5 per sale.
Here’s another, simple example:
- Let’s say that you’re considering advertising in a new magazine and the advertising cost is going to be around $10,000. Your average profit per sale is $800 which means you need 12.5 sales to break even on the initial sale. Let’s say that the lifetime value of this customer is $3130. All you need then is 3.19 sales to break even.
Big difference, isn’t it!
At some time or another, most business owners and managers have said “no” to at least a few advertising opportunities because when they did their initial sums they thought the costs was too high.
But once you factor in how much a new customer is worth to you over their customer lifetime, all those advertising opportunities that you said no to in the past, could now be very profitable indeed!
One of the key benefits of knowing how much a customer is worth is in helping people recognize how much they can afford to spend on acquiring a new customer and still make a profit!
This opens you up to a sea of revenue-generating opportunities that you have perhaps been previously ignoring.
2. See the value in making generous offers
Once you consider the lifetime value of your customer, you can easily recognize that it’s well worth offering some amazingly valuable bonuses just to win a new customer.
An internet marketing consultant in the USA recently released a hard copy business magazine. The subscription fee to this magazine is $29 a month.
This consultant understands the “lifetime value” principle and he knew too that once people got their hands on his magazine they’d love it. With that, he decided to make a massively valuable introductory offer.
Here’s how it went …
As an introductory offer all you needed to do was to pay the postage and handling for the first issue. For that nominal amount you’d receive the first two issues of this magazine free of charge. On top of that you’d get a free copy of a marketing manuscript worth $97. You’d also receive an abbreviated version of his $15,000 seminar FREE. Not only that, you’d also be given mind maps of the presentations of all the speakers at this seminar FREE.
That’s well over $15,000 in value FREE. The $29 a month subscription fee seems inconsequential by comparison.
3. Forecast future profitability and cash flow
Once you are clear on your customer’s lifetime value, it’s easy to forecast future profitability, future product or service demands. It’s also easy to predict cash flow with much greater certainty.
Here’s why … every time you undertake a certain marketing campaign at a certain cost you know you’re going to produce a certain result.
Or using the paint chip repair example, for every $5 you spend attracting a new customer, you’re going to generate $460 in profit over the lifetime of that customer.
4. Sell your business faster and for more money
Here’s one more benefit that many people don’t consider. If you are ever considering selling your business, being able to show a potential buyer an incremental lifetime value projection is a great way to excite them about the potential of owning your business.
A faster sale at a higher price.
5. Use these KPIs to increase your profits
If you think about it, the profitability of your entire business hinges around that one figure – the lifetime value of a customer. Increase that figure and your profits increase. Reduce that figure and your profits reduce.
When you think about it like that, it gives new meaning to the term, “Customer is King”, doesn’t it.
Here’s a quick snapshot of what’s possible:
- Increase the gross profit on each sale by increasing prices, cross-selling and up-selling or reducing your costs
- Increase the number of times that a customer does business with you each year
- Put in place customer nurturing initiatives to ensure the customer stays with you for a longer period of time.
- Deliver incredible service and put in place referral systems to encourage customers to refer more people your way
If you’d like some help identifying how you can maximise the lifetime value of a client, we’d love to help. We have a range of programs including “done for you” customer attraction and customer loyalty programs as well as “guide you by the hand” marketing coaching programs to help you improve your results. Just send an email to kristina@ kristinamills.com or call us on +617 5448 9465.
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Kristina Mills is a highly regarded direct response copywriter, marketing strategist, entrepreneur and success strategist having worked with and produced great results for some of Australia's most inspirational entrepreneurs, speakers, event companies, professional services firms, property companies, and internet entrepreneurs. She is the author of Invisible Genius Vol1 and 2, Freelance Copywriting Fast Track Course, Direct Mail Mastery, Web Copy Mastery, Invisible Genius Vol.1 and 2, Mortgage Broker Letters that Sell, Real Estate Letters that Sell, How to Create a Sales Explosion With Every Ad and Letter Your Write. To find out more about how Kristina can help you live your potential, arrange a free 15 minute phone chat.