Optimization Glossary

Life Time Value or LTV is an estimate of the average revenue that a customer will generate throughout their lifespan as a customer. This ‘worth’ of a customer can help determine many economic decisions for a company including marketing budget, resources, profitability and forecasting. It is a key metric in subscription based business models, along with MRR (Monthly Recurring Revenue).

How To Calculate LTV

Lifetime Value can be calculated in many ways. In the case of a subscription model, a simple method is to take the average monthly amount expected from each customer and divide it by your churn rate (the rate at which you lose customers each month). For example, if you charge \$500 per month and your churn rate is 5% then your LTV for a new customer is (500/0.05) or \$10,000.

In this case, your customer’s expected ‘lifetime’ is 20 months. You can find more detailed ways to calculate LTV for subscription-based companies here.

For companies that use a non-subscription model, it is the total income you expect to gain from a new customer including any add-ons and/or upsells that you expect from the customer. This is calculated by multiplying the Average Order Value by number of Expected Purchases and Time of Engagement. Therefore, the LTV of a customer can grow or shrink over time based on your offerings and ability to grow the account.

It is important to keep in mind that different types of customers can have different LTVs, especially when you have different pricing levels for your various offerings. In this case it makes more sense to calculate the LTV for different customers based on the pricing segment that they fall into.

How Is LTV Used?

Lifetime Value is a key variable in revenue forecasting, as each additional customer brings additional revenue per month and throughout their projected ‘lifetime’.

LTV can also be used to determine the marketing budget of a company. Adding LTV segments to your customer personas will help you get a better view of the importance of each customer. Specifically, the Customer Acquisition Cost (CAC), the cost of acquiring one new customer, for each segment should always be lower than the Lifetime Value of a new customer.

For example, if a company is considering lowering the price point for one of its product segments, but estimates that the new Life Time Value of a customer of that segment will be lower than the current CAC for that segment, then creating that price point is an unsustainable business decision.

Another key area where LTV can be applied is resource allocation for current customers. Once you are able to segment your customers according to their LTV, you can allocate more resources towards both the acquisition and maintenance of certain customers. Customers with a high LTV should receive more resources depending on what stage of the customer lifecycle they are in, especially if they are nearing the end of the cycle with potential for renewal.