Customer lifetime value is broken, but here’s how to fix it
The model through which we calculate customer lifetime value (LTV) is broken. I don’t mean mechanically broken – the maths works out just fine – I mean principally broken.
For starters, here’s the simple maths:
(Average Value of a Sale) X (Number of Repeat Transactions) X (Average Retention Time in Months or Years)
The current marketplace through which we participate as buyers and sellers of goods and services revolves around exchanges of value. Buyers don’t part with their cash if there is nothing to buy, and sellers don’t part with their product and expect cash in return if they have nothing to sell – unless, of course, you’re a bank or ponzi scheme, but that is an entirely different story.
We sometimes forget that we would have a 0$ LTV if we didn’t first offer something of value to a customer. Again, we participate in a marketplace as buyers and sellers where value is exchanged and ideally shared. So why do we not measure the value of a relationship to both parties? Or to put it another way, why do we, as service providers, not measure the value we deliver to a customer?
I would hypothesise the ongoing value we deliver to a customer, particularly if it is unique value (i.e. cannot be acquired by the customer easily elsewhere), has a direct correlation with the length of our relationship.
Now we move into the ambiguous territory where everyone says, “How long is a piece of string?” This is okay because value is not, and never will be, ‘one size fits all’. Value is pertinent to the job to be done – that is, the thing the customer is actually trying to achieve and genuinely cares about. Therefore the purpose of your product or service is to effectively satisfy the customer job. (I wrote about this topic extensively here).
So how do we measure the efficacy of our product or service and therefore the value we deliver to the customer?
Let me demonstrate with an example of a persona. Greg is a thirty-something year old dad of three living in the inner-west suburbs of Melbourne.
Greg’s quite an active guy online. He manages an array of bills, regularly signs up to new services, orders a good deal of shopping, and even books small, regular holidays for his wife and kids.
Like all of us, Greg is a bit time-poor. He works hard, loves spending time with his kids, and remains conscious of the one-on-one time he gets with his wife. Life, and the decisions associated with where Greg chooses to invest his time, is a constant balancing act.
Because Greg’s wife, Rebecca, is away regularly for work, Greg tries to get most of his ‘weekly duties’ like paying bills, ordering groceries, and managing household services done in the wee hours of the morning. This gives him some headspace to do the things he needs to prior to getting the kids up and ready for their busy days. On average, Greg spends an hour every weekday managing these tasks.
The big problem here is that this used to be Greg’s workout time. He’s gone from a trim and energetic 79kg four years ago, to a less trim, less energetic 91kg today. He’s totally okay with the weight, but isn’t okay with the way he’s feeling. He certainly doesn’t have the energy he used to, and this is something he’d love to get back if he could.
We’ve now set the context and are starting to understand the real problem Greg has. He wants to feel great and have enough energy to be an inspiration to his kids. This is actually Greg’s job to be done.
Over the weekend, Greg was speaking to Dan, a great mate of his who happened to introduce Greg to a new service. Basically it was an app that helped Dan capture and store his data, and then exchange it in scenarios where he felt it would have value. Dan explained that he’d been using the service simply to pre-fill all of the forms he used to make all of his online purchases. He was just guessing, but told Greg he thought it saved him on average two or three minutes each time he used it. So rather than typing the same details into a form again and again, he used his app to exchange the data the website needed by simply pushing a button.
Later that night, Greg decided to sign up to the app in the hope that it was more than just Dan’s hype. Dan tended to be both an early adopter and early abandoner.
The process was interesting. It was quick; it provided enough detail and insight to give Greg a little confidence that this thing may have some value. It also started asking him a few simple questions about how he currently manages the things he regularly does online.
Greg was open about the fact he spends about five hours a week on tasks he feels should be done almost instantly.
The app then asked Greg who he might want to connect with. This was something Dan didn’t really explain, but when Greg was signing up for the app, it was made pretty clear. Greg could actually connect directly with the people or organisations he already had a relationship with. That way the organisation could exchange data with Dan, as a starting point, so he didn’t have to populate it all himself.
Let’s fast track three months. Greg is now using this new app, but only every second or third day. He’s directly connected with all of the organisations he does business with regularly. This has made paying bills, changing service type, or ordering his weekly shopping a lot easier. He also recently booked a holiday, but this time the process was really different. Greg simply set the parameters of the holiday he thought was ideal, and then sent those details anonymously to a market of people and businesses that organise holidays. When Greg was happy with what he felt was the right deal, he exchanged his data and approved the transaction to pay for it.
Greg hasn’t spent the time to quantify the exact impact, but feels it’s saving him hours per week. He’s even managing to get to the gym for 45 minutes every second day.
It’s early days, but the additional energy Greg has from his time in the gym is making backyard cricket a lot more fun. His kids are noticing too.
So what’s the value to Greg of getting back to healthy exercise habits and regular backyard cricket with his kids? To steal the phrase from MasterCard – priceless.
You’ve probably reached this point and realised that this article does not exist to highlight a new, ingenious mathematical framework for calculating the lifetime value we deliver to our customers. That’s not the purpose. What this is about is highlighting how a lifetime of value can be created for your customers through genuine customer centricity and understanding of the customer’s job to be done.
If brands focus first and foremost on the customer job, and find ways to understand the people that give them money, the shared value of a customer lifetime will increase significantly.
You can read a lot more about LTV and the unit economics of SaaS businesses here.