LTV (individual account) = Average Period Payment (Monthly or Yearly)
X Average Gross Margin
X Expected Number of Payment Periods
LTV (company) = MRPU * Gross Margin / Churn
Definition: Customer Lifetime Value (LTV)
Customer Lifetime Value (LTV) measures the amount of gross profit that is generated from a customer over the entire time they do business with a company. For SaaS businesses (software companies that employ a subscription based business model), LTV is calculated by multiplying the average period payment (this may be a monthly or annual payment depending on the SaaS company), by the average gross margin, by the number of periods the customer is expected to make a payment.
Customer Lifetime Value (LTV) Example
Consider a SaaS company with a customer paying $50/month software license fee. The average gross margin on this license is 85% and, based on historical trends, the customer is expected to be a customer for 52 months. In this situation:
LTV = $50 * .85 * 52= $2,210
Customer Lifetime Value (LTV) Benchmarks
There are no SaaS industry or sector benchmarks for Customer Lifetime Value. LTV goals and benchmarks should be set based on internal costs, product/service revenue, and business lifecycle stage. Here’s some expert advice and rules of thumb:David Skok, General Partner, Matrix Partners
- Customer Lifetime Value (LTV) should be at least 3 times greater than Customer Acquisition Cost (CAC).
Customer Lifetime Value (LTV) Challenges
Estimating Customer Lifetime Value can be challenging. Projections are usually based on historical customer trends, but these trends may not hold in the future due to a number of internal (product changes, PR, customer support etc.) and/or external (economy, industry, sector, competition etc.) business factors. Moreover, startups are not likely to have much historical customer data (for insights into how startups can get to LTV without historical data see Infer CEO Vik Singh’s blog on estimating LTV with rolling sales and marketing periods). Estimating Customer Lifetime Value can also be complicated by a diverse customer base, or in situations where pricing is unique for each customer. Dynamic pricing models can further complicate LTV estimates, as it can be difficult to predict product usage for growing and declining businesses. On the costs side of the equation, it can be difficult to attribute the proportion of marketing and sales expenses that should be tied to specific sales/accounts. Finally, accurately measuring and monitoring LTV accurately and continuously can be big challenges; these are perhaps the most important challenges to be met for high growth SaaS companies.
Customer Lifetime Value (LTV) Best Practices
Following best practices for measuring, monitoring and optimizing Customer Lifetime Value can help you grow your business profitably. Here are a few tips and best practices:
- Invest in “good customers”, that is, customers who require little maintenance and support, and who promise strong LTV. Focus your marketing, sales, product and support efforts to attract, win and retain these customers.
- Get rid of “bad customers”, that is, customers that who are costing you more to maintain (via customer support demands, discounting etc.) than they’re paying you to be customers. Don’t be too quick to take this advice however; small accounts can grow with time, and there are many benefits to holding customers beyond the direct revenue that can be generated from them (word of mouth marketing, referrals etc.).
- Increase customer satisfaction to increase LTV. The more satisfied a customer is with your product or service, the more loyal and the longer their customer lifetime is likely to be. Measure customer satisfaction and loyalty with an NPS program.
- Segment customers to get better LTV readings. If your customer base is diverse, segmenting your customers by size, industry, sector or other relevant dimension will give you more granular, and more useful LTV data.
- Use predictive modeling to estimate LTV. In cases where you have a lot of historical data, a diverse customer base and a complex product offering (multi-tiered, many addons, service options etc.), predictive modeling may be the best route to estimate LTV.
How to monitor Customer Lifetime Value in Real-time
Once you have established metrics for measuring Customer Lifetime Value (CLV), you’ll want to establish processes to monitor this and other SaaS KPIs on a continual basis. Dashboards can be critical in this regard.
Learn more about how to track your Customer Lifetime Value on a SaaS Dashboard.
Customer LIfetime Value: Top 5 Resources
4 SaaS Customer Acquisition Best Practices, David Skok
The Math Behind SaaS Startup Customer Lifetime Value, Tomasz Tunguz
How To Calculate Digital Customer Lifetime Value, Matt Lindsay
Calculating LIfetime Value, Kiss Metrics
Insights Periodic Table of SaaS Sales Metrics, Insight Venture Partners