Chapter 4: Computing Lifetime Value

Overview

I think that without numbers there is no future. You cannot measure your progress unless you’ve got benchmarks against which to evaluate costs and profits. So ROI, RFM, and lifetime value are the minimal critical benchmarks you must now establish if you want to measure the profitability of your business today. Those same benchmarks then become the standards by which you measure your business’s future growth and the justification for the database tools you must have to get that growth. Without the numbers, you don’t have a future.

—John Travis, Manager, Business Development, Hudson’s Bay Company

There are really only three marketing functions:

1. Acquiring customers

2. Retaining or reactivating them

3. Selling them more products

Everything else is a modification of one of these three functions. Measuring customer lifetime value is central to all three functions, as we will see in this chapter. Lifetime value tells you how much you should be spending on each function, and it measures whether your marketing efforts are doing any good.

Lifetime value is a measure of the net profit that you will receive from a given customer during his or her future lifetime as your customer.

I have computed the lifetime value of customers for a great many different companies, including banks, credit card issuers, insurance companies, packaged goods companies, software companies, hardware companies, and automobile companies. The case study given in this chapter deals with a fictitious automobile company. It is interesting because it illustrates how to compute the automobile repurchase cycle over a 9-year period, which is what automobile companies have to deal with. The case illustrates the methods used. The numbers have been modified so that they are not derived from any particular automobile company—the case does not disclose any proprietary information, but rather is a summary of my experience with three very different automobile companies over several years.