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How to Increase Customer Lifetime Value
While many business make substantial investments to improve customer acquisition, they often fail to invest in improving their customer lifetime value. Customer lifetime value is the average monthly net profit per customer divided by the monthly churn rate. Learn how to calculate customer lifetime value here. Companies can increase customer lifetime value by making investments to improve customer loyalty, crossing selling, and up-selling.
Improving customer loyalty, reducing customer churn, allows you to increase net new sales. Net new sales = # of New Customers – Customer Churn. Your sales and marketing teams work hard to bring in new customers, and customer churn erodes their efforts. Fortunately, improving customer loyalty and reducing customer churn, increases the return on investment from customer acquisition, improving your customer lifetime value.
To reduce customer churn, you need to know each of your customers. You need to know who is most likely to leave and why. Knowing who is most likely to leave allows you to contact them before they leave. Knowing why people leave, allows you to fix your systems. The who is a short-term fix, the why is a long-term fix. For small companies, knowing the who and why might be obvious. However, for companies with thousands or millions of customers this becomes very difficult.
Let’s look at the impact of increasing customer loyalty on revenue. A company has 20,000 customers. On average each customer spends $100 a month. Previously the company’s churn rate was 5%, or 1000 customers a month. 20,000 customers * 5% churn rate = -1000 customers. The sales team works hard to add 1300 new accounts each month. Unfortunately, despite the sales team’s hard work, the company only nets 300 new customers a month. 1300 new customers – 1000 lose customers from churn = 300 net new customers. In an effort to increase customer lifetime value, the company launches a campaign to increase customer loyalty. The campaign includes marketing, sales and customer service. It is effective, and reduces churn 1.1%, from 5% to 3.9%. Now the company only loses 780 customers each month. 20,000 customer * 3.9% customer churn = 780. This increases net new customers from 300 to 610. 1300 new customers – 780 customer churn = 610 net new customers. The companies investment in increasing customer loyalty, reducing customer churn, increase new monthly revenue by $31,000. (610 net new customers * $100 monthly revenue/customer) – (300 net new customers * $100 monthly revenue/customer) = $31,000 additional revenue for decreasing customer churn by 1.1% from 5% to 3.9%.
Let’s look at the impact of increasing customer loyalty on customer lifetime value. The company’s average net profit per customer per month is $100. With a 5% customer churn, customer lifetime value was $2,000. $100 monthly net profit / 5% customer churn rate = $2,000 customer lifetime value. When customer churn was decrease 1.1% from 5% to 3.9%, average customer lifetime value increase $564.10 to $2,564.10. $100 monthly net profit / 3.9% customer churn rate = $2,564.10 customer lifetime value. Learn more about calculating customer lifetime value.
Cross Selling educates your current customers about the your solutions, and invites them to try new things. It informs them about the depth of your solution offerings. If you have more than one solution, it is likely that the majority of your customers are unfamiliar with every solutions your company offers. The goal of cross selling is not to bludgeon your customers into capitulation. The goal is to know your customers well enough to offer the right solutions at the right times to the right person. Your customer’s reaction should be “WOW” for you being helpful instead of a “Whoa…” for being over reaching. If executed properly, cross selling can enhance your customer relationships. It communicates that you spend time thinking about each of your customers, and gets them more engaged with your solutions. Learn how predictive analytics can help you make cross selling personal.
Let’s look at the impact of cross selling. An online retail company has 20,000 current customers. At checkout, they collect customer information including ZIP Code, gender, date of birth, and accounting information including purchase dates, items purchased and quantities purchased. Using predictive analytics and this data, the company is able to develop a model of who is most likely to buy what next and why. The model determines at $50, 5% of customers are ready to purchase Product XYZ. If 100% successful, the company would increase revenue by $50,000. 20,000 customers * 5% target population = 1,000 Product XYZ customers. (1,000 Product XYZ customers * $50) * 100% effectiveness rate = $50,000. However, if only 60% of customers could be cross sold on the first pass, revenues would increase by $30,000. (1,000 Product XYZ customers * $50) * 60% effectiveness rate = $30,000. If the company discounted Product XYZ by $10 to $40, the model predicts that a lift of 3% would result, and the 5% customers would increase to 8%. If the company discounts Product XYZ $10 to $40, and cross sells the product to 8% of the customer base, then revenues would increase by $64,000. (20,000 customers * 8% Product XYZ customers) = 1600 customers. (1600 customers * $40) * 100% effectiveness rate = $64,000.
Let’s look at the impact of cross selling on customer lifetime value. The average net profit per customer per month is $100. Product XYZ has a net profit of $30 dollars on $50 retail price. If 8% of 20,000 customers, or 1,600 customers purchase Product XYZ then average monthly net profit increases from $100 to $102.40. (1600 Product XYZ customers * $130 net profit) + (18,400 non-Product XYZ customers * $100 net profit) / 20,000 total customers = $102.40 average monthly net profit. Assuming an 5% customer churn rate, cross-selling would increase customer lifetime value from $2,000 to $2,048. $102.40 average monthly net profit / 5% customer churn rate = $2,048 customer lifetime value.
Up-selling is an invitation for your current customers to upgrade or use more. Up-selling educates your customers about their options, by comparing good, better and best, and helping them select the right level. Up-selling is about right sizing your customers, including downsizing customers. If done properly up-selling will build trust. To build trust you need to know who should be upgraded, who should be downgraded and why. If you don’t know your customers, and blindly try to up-sell them, you will lose credibility. Your customers, will see you as greedy and uninformed. Trust is essential to up-selling. It will allow customers to trust you, when they actually do need to upgrade. Successful up-selling should help your customers, not erode trust.
Let’s look at the impact of up-selling. A company has 20,000 customers. It offers software as a subscription at three different levels, Basic, Performance and Premium. The Basic subscription is $20/month and has 10,000 customers. The Performance subscription is $50/month and has 9,000 customers. The Premium subscription is $100 a month and has 1,000 customers. Using predictive modeling, customer data and accounting data, the company create customer profiles for each subscription, and then identifies the best fit for each customer. If a customer is not currently using the right subscription level, they should be upgraded or downgraded. The results show that 10% of Basic customers are better fits for Performance subscriptions and should be upgraded. If 100% successful, upgrading 10% of customers from Basic to Performance subscriptions would increase revenue by $30,000. (10,000 Basic Customer * 10% Basic to Performance Up-sell) * 100% effectiveness rate = 1000 upgraded customers. 1000 upgraded customers * ($50 Performance subscription – $20 Basic subscription) = $30,000 in new monthly reoccurring revenue.
Let’s look at the impact of up-selling on customer lifetime value. The average monthly net profit is $10 on Basic subscriptions, $30 on Performance subscriptions, and $80 on Premium subscriptions. With 10,000 Basic customers, 9,000 Performance customers and 1,000 Premium customers, total customer lifetime value is $450, $200 for Basic customers, $600 for Performance customers, and $1,600 for Premium customers. $10 Basic Monthly Net Profit / 5% customer churn rate = $200 customer lifetime value. $30 Performance Monthly Net Profit / 5% customer churn rate = $600 customer lifetime value. $80 Premium Monthly Net Profit / 5% customer churn rate = $1,600 customer lifetime value. After the up-selling campaign, 10% of Basic customers, or 1,000 customers, upgraded to Performance subscriptions. While customer lifetime value (CLV) remained the same for each subscription, the total customer lifetime value increase from $450 to $470. ($200 Basic CLV * 9,000 Basic customers) + ($600 CLV * 10,000 Performance customers) + ($1,600 CLV * 1,000 Premium customers)/ 20,000 total customers = $470 average customer lifetime value.
It takes courage to stop and focus on building strong relationships with your current clients. It can be attractive to focus on attracting new customers. However, if you build shallow relationships, your work to attract new customers will be canceled out by high churn and low customer lifetime value. Please, go and start building better relationships with your current customers. Increasing your customer lifetime value . This will help you increase revenue, profits, and allow you to invest more in acquiring new customers. We all love launching new sales and marketing campaigns, but first we need to stop and focus on our building stronger relationships with our current customers.