Why Customer Lifetime Value and Retention Ratios Impacts Sales

By Janice B Gordon | Customer Retention

Mar 03
Janice B Gordon Customer retention Photo by Ian Panelo from Pexels

Do you use metrics to track customer value and retention?

It is not unusual for me to come across well-established businesses with a turnover of over $10 million and to find that they have never conducted the analysis into the health of their customer relationships.

For this reason, I wanted to share the primary surveys to gain customer feedback on the health of the customer experience and relationship.  In my previous article I talked about measuring what customer feel about your product and service, let’s now look at the customer retention ratios to measure the value of the customer relationship. In this article I am going to talk about the key metrics of business health:

  1. Customer Lifetime Value (CLTV)
  2. Churn Rate
  3. Sales per Customer

  

  1. Customer Lifetime Value CLTV

Unless you sell completely customised one-off large ticket items, regardless of your margins there is little value in the initial transaction, because of the high cost of acquisition. The value is gained in the longer-term relationship with repeated purchases because the acquisition cost reduces significantly to the cost of maintaining the relationship. The lifetime value (LTV) ratio measures the long-term relationship or value of retention.

The lifetime value becomes higher the longer the customer is retained and continues to purchase from your company. Recognising this critical ratio has built the need for customer success teams who play vital roles in solving customer problems and offering recommendations that enable customers experience, enhances loyalty and ultimately increase long-term sales.

Customer lifetime value allows the business to predict the longevity of sales revenues. There are three components of the CLTV calculation:

  1. Purchase Frequency – the frequency within a given period that customers purchase.
  2. Average Order Value– the average amount of revenue from each sale.
  3. Average Customer Lifespan (if you do not have historical data, depending on industry lifespan can be between 1 and 7 years)

The formula for calculating CLTV is:

Purchase Frequency x Average Order Value X Average Customer Lifespan (x yrs.) (2.2 X £7,500 X 3 years = £49,500)

A detailed CLTV calculation:

Purchase Frequency x Average Order Value X Average Customer Lifespan – (Acquisition Cost + Retention Cost x-1 yrs.) (2.2 X £7,500 X 3 years – (£6,500+£3,000) = £53,000)

I use this ratio to understand which customer is my most valued customers that deliver the highest long-term return.

I know companies rightly celebrate growth in customer acquisition and forget to calculate this growth in customers net of the number of customers who left the service. There is nothing to celebrate of you gain 100 customers but lose 90 in the same period, with higher acquisition cost it is likely you are making a sizeable loss on the small net gain of customers. Exactly why the churn rate is an important ratio to track and especially crucial in a revenue recurring model business.

Janice B Gordon Customer Retention Photo by chrissie kremer on Unsplash

  1. The Churn Rate

Your churn rate is the percentage of your customers that end the relationship and leave the company over a given time.

There are three components of the Churn calculation:

  1. The number of churned customers (decide when a customer has left is it at non-renewal of subscription?)
  2. The total number of customers ( (is there a trial or cooling-off period that customers are not customers until after 30 days?)
  3. Determine a reasonable period (what is reasonable for your industry, quarterly or yearly)

The Churn Rate Formula is calculated as the number of customers who left / by the total number of customers:

(1,000 / 10,000 = 1/10 or 10% Churn rate)

There is a lot to consider, which might affect the churn rate, such as seasonality, sector differences, external factors like the current health crisis in China.

However, the churn rate reflects the value offered to your customer, use customer surveys to understand what aspect of the product features or service experience needs your attention to reduce the churn rate of customers.

It is a valuable tracking metric to identify adverse impacts on customer retention and a measure of long-term revenue health.

CLTV and the Churn rate are essential metrics to improve the quality of customer success; you will need to look at these metrics independently and consider together and interrelated.

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  1. Sales per Customer

This ratio gives the average customer order value. I would track this for the broader customer base and calculate the % of customers that return the highest revenues, to calculate the average order value of the top 20% of customers.

The top 20% of customers are your current high-value opportunities, what I call your most valuable customers and accounts. They deserve special attention to retain them and grow the relationship into a profitable partnership.

There are two components of the sale per customer calculation:

  1. Total Sales in x year
  2. Total No of customers in x year

Total Sales in x year / No of customers (£4,500,500 / 150 = £30.003 sale per customer) 

There are two things I encourage my clients to do to identify their current most valued customers, who are the customer that gives you the greatest share of the revenue?

£2,500,500 / 25 = 100,020 sale per key customer

If you want more of this type of your most valued customer, then you must work hard to understand their unique characteristics and grow the relationship and revenue by delivering the expected value to your customer. Once you understand these customer characteristics, then actively find and nurture to retain more of these valued customers through a strategic plan of engagement.

Janice B Gordon Customer Retention Photo by William Iven on Unsplash

Although we are talking about numbers and ratios do not forget that behind the numbers are people and relationships.  The ratios allow you to see trends anticipate problems, make decisions and priorities your resources and efforts.  Like feedback surveys, ratios in themselves are useless unless you are willing to act on improving performance, satisfaction and experience.

The focus is on the individual experience that makes up a buying group and to selectively engage the customer, influencers and buyers. Nowadays, B2B sales are not secured on the decision of one person, but from a group of individual people within the group. You must understand the demographics of who the individuals are, position in company and role, gender, age, personal status and influence. And to understand the individual psychographics of why they buy, family motivated, career climber, risk-averse, view of quality over the economy and their perspective in the buying group, their unique interest and perspective.

If you miss the opportunity of engaging with your customer’s feedback and act on the trends in the ratios, you lose a much bigger opportunity, which is the impact on your bottom-line sales revenue. Use NPS CSAT and CES feedback surveys to build stronger relationships with your most valued customers and CLTV, Churn ration and Sales per Customer ratio to enhance the retention of your most valued customers.

I have selected these customer surveys and ratios because they are inter-related; improved customer experiences have a direct impact on reducing churn rates and strengthen customer lifetime value and retention, impacts the predictable of sales growth.

Do you use other metrics to track customer value and retention?

I look forward to your comments 🙂

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About the Author

Janice B Gordon helps enterprising companies adapt their sales approach and grow key customers. This has led her to create the popular Scale Your Sales framework. Janice is the Customer Growth Expert an Author, Educator and Consultant ranked 25 of the Top100 Global Business Influencer 2017. Contact Janice to talk about Scaling Your Sales.