The Path to Profitability
In difficult economic times businesses need every possible advantage to reap profits. Utilizing the Customer Lifetime Value (CLV) measurement has provided that advantage to many companies, from giants such as IBM and an upscale global fashion retailer to a variety of smaller firms throughout the world.
In its simplest terms, CLV is a formula that helps a marketing manager arrive at a dollar value associated with the long-term relationship with any given customer, revealing just how much a customer relationship is worth over a period of time. It differs from other formulas in that it is a forward-looking measurement of customer performance and takes into consideration all elements of revenue, expense and customer behavior that drive profitability. CLV helps marketers adopt the right marketing activities today to increase profitability tomorrow. It rewards not those who have been the best customers, but those who will be the best customers in the foreseeable future.
Why CLV is Better
None of the other well-known customer performance measurements is as all-encompassing as the CLV metric. The Share of Wallet (SOW) measurement, which represents the spending that a business captures from a customer in products and services in relation to the total spending in that category, does not explain when a customer is likely to buy next and how profitable a customer will be in the future. A second method, the use of historical profit assumes that the past spending behavior of the customer is going to continue in the future. This is not always the case.
Finally, there is the widely used Reach, Frequency and Monetary Value (RFM) metric, which measures the number of days/weeks/months since the last transaction occurred, how much the customer has contributed to revenues in the past, and how frequently these customers have been buying from the firm. However, it does not reveal any information about whether or not a customer is loyal, when a customer is likely to buy next, or how much profit a customer is likely to give. CLV overcomes these three issues by incorporating the probability of a customer being active in the future and the marketing dollars to be spent to retain that customer.
By V. Kumar, Ph.D
ABOUT THE AUTHOR
V. Kumar (VK). Ph.D. is the Lenny Distinguished Chair Professor of Marketing, and Executive Director, Center for Excellence in Brand & Customer Management, J. Mack Robinson College of Business, Georgia State University. He has been recognized with seven lifetime achievement awards in Marketing Strategy, Inter-Organizational Issues, Retailing, and Marketing Research from the AMA and other professional organizations, the Paul D Converse Award, and the 2011-12 Gary L. Lilien ISMS-MSI Practice Prize Award. He has published over 190 marketing articles in many scholarly journals including the HBR, Sloan Management Review, JM, JMR, Marketing Science, Management Science and Operations Research. His books include Managing Customers for Profit, Customer Relationship Management, Customer Lifetime Value, Marketing Research, Statistical Methods in CRM, and International Marketing Research. He is frequently invited to conduct executive education programs for the Global Fortune 1000 firms as well as to teach at major universities worldwide. VK spends his “free” time visiting business leaders to identify challenging problems to solve. He plays tennis and basketball to relieve his stress from the academic world. Recently, VK has been included in the Legends in Marketing series, where his papers will be published as a 10-volume collection with commentaries from the marketing scholars worldwide.
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