Customer lifetime value (CLTV) is the total amount a customer spends on your products or services throughout the relationship. It’s the revenue your business can generate from a single customer in a specific period. For example, if you charge $350/ month from a customer who stays for 6 months, the lifetime value will be $350 × 6 = $2100.
Lifetime value (LTV) is among the most important yet mysterious metrics for SaaS business owners. It’s challenging to calculate customer lifetime value and then identify whether it’s good or not. In this post, we will guide you about this crucial SaaS metric, helping you understand and use it to grow your business. Let’s move forward without further ado.
How to Calculate Customer Lifetime Value?
The aforementioned example shows the LTV for a single customer only. So, this method will not be applicable in actuality as you will have multiple clients. To calculate LTV, you need to leverage 2 additional metrics. These are listed below.
Churn Rate
It’s the number of customers who stop using your services within a specific duration. For instance, if you had 200 clients at the start of the year and lost 20 of them when the year ended, the churn rate would be 10 %.
Average Revenue Per User (ARPU)
It’s the average revenue you generate from all your customers throughout the year. For instance, if you have 150 customers, with 75 of them paying $340 per year and the rest paying $540 per year, the ARPU will be $440.
Customer Lifetime Value Formula
You can calculate LTV by using the following formula.
LTV = ARPU (average monthly recurring revenue per user) × Customer Lifetime
You can also calculate it using the churn rate. The formula will be:
LTV = ARPU / User Churn
It shows that there is an inverse relation between LTV and churn rate. Lower LTV means higher lifetime value and vice versa.
Calculating all these metrics and then finding LTV using them can be challenging. Hopefully, you don’t have to do all these calculations manually. You can leverage Baremetrics to track and analyze LTV over time.
Relationship Between LTV and Other SaaS Metrics
Customer lifetime value is linked with various other metrics as well. Let’s explore these relationships without further ado.
LTV and Customer Acquisition Cost (CAC)
Customer acquisition cost is the amount you can spend on acquiring new customers. It’s connected with customer lifetime value as LTV calculation helps you drive what you can spend on acquiring new customers. For example, if your CAC for a customer is $200 and the same customer has an LTV of $800, it means you are making $600 from that specific customer.
This relation shows that lowering your CAC and improving LTV can help you grow your business at a rapid pace. If you know how much customers’ value will be in a lifetime, you will spend the amount accordingly to acquire them. The key thing you need to focus on is that LTV/CAC should be higher than 3.
LTV and Churn
The churn rate is closely linked with customer lifetime value. It’s the primary reason why LTV varies across customer segments. Typically, customers on the lowest-priced plans tend to have the highest churn rates, leading to a lower LTV compared. On the other hand, customers on higher-priced plans show a low churn rate and contribute to improving LTV.
This disparity is crucial because it directly influences how much you can spend on customer acquisition. For instance, spending $200 to acquire a customer with an LTV of $150, doesn’t make financial sense. You should target customer segments with high lifetime value. Understanding the LTV for each customer segment is essential for making informed marketing and pricing decisions.
Baremetrics provides instant access to these metrics as soon as you integrate your account. As a result, it enables you to make data-driven decisions effortlessly.
Effective Strategies to Boost LTV
Only calculating the LTV isn’t enough. You must analyze it to check whether it’s good or bad. Comparing it with the LTV of similar businesses of the same sizes will help you understand this in a better way. If it’s low, you should put efforts into improving it. The following are some effective strategies you can adopt to improve customer lifetime value.
Communicate with High LTV Customers
It’s one of the most effective ways to boost LTV as it helps you understand what makes them spend an amount on your services or products. You have to shortlist some high LTV customers and schedule interviews with them. When communicating with them, ask questions about insights that’ll help you understand what’s keeping them around. Based on this communication, you can plan to acquire new customers with high LTV.
Reduce Churn Rate
A high churn rate leads to low LTV. Reducing it is mandatory not only to improve LTV but to grow your business as well. You can contact churned customers to figure out the reasons why they left. As a result, you can resolve these issues to reduce the churn rate. For instance, if most customers are churning due to high prices, you can reduce them or improve the quality of your services.
Increase ARPU
Average revenue per user plays a crucial role in improving LTV. You can boost it by increasing prices or expanding revenues. Increasing prices can be risky for many startups as you may end up losing customers. Expanding revenue is a safer and more effective option. You can do so by acquiring more customers, upgrading their plans, or making them opt for add-ons.
Setting LTV Goals
It will help a lot especially if you are a goal-oriented person. It helps you achieve goals and improve LTV gradually. Make sure you set realistic and achievable goals. By doing so, you will plan everything appropriately to boost LTV.
Bottom Line
LTV isn’t a regular SaaS metric only, but also a powerful tool to grow your business and price products appropriately. You can calculate customer lifetime value by using Baremetrics. It’s a powerful tool that will help you understand and analyze your LTV.
