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Customer Value : Segment Customers to Determine LifeTime Value
Drilling Down Newsletter # 59: 8 / 2005

Drilling Down - Turning Customer
Data into Profits with a Spreadsheet
Customer Valuation, Retention, Loyalty, Defection

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Prior Newsletters:

In This Issue:

# Topics Overview

# Best Customer Retention Articles

# Segment Customers to Determine LifeTime Value

Topics Overview

Hi again folks, Jim Novo here.

This month, we've got LifeTime Value on the plate again.  That's a good thing, because 5 years ago, nobody ever asked about it.  Heck, 5 years ago, people kept asking me why I thought tracking source of the click to behavior on the web site was so important...

My, we have come a long way, haven't we?

We also have a couple of great customer marketing article links.  The first talks about a predicted upswing in customer loyalty programs online.  As the person who created the first "points for page views" financial model and live program back in 1997, I bet you right here most of these programs will fail to be profitable, because people will not build these programs based on behavioral analysis.  The second article is really about 10 mini case studies on what is going on in the world of web analytics.  In a phrase, large increases in profit.

To the Drillin'...

Best Customer Retention Articles

Loyalty programs on upswing among online retailers, study finds
August 19, 2005  Internet Retailer
Jupiter says a lot of loyalty programs are going to be launched in the next year.  I'd guess most of them will be a big mistake; you can really damage your business if you don't know what you are doing.  Above all, make sure your program isn't constructed in a way that will drive subsidy costs among best customers.

Web Analytics Special Report: Various
August 31, 2005  DM News
When the "bible" of the Direct Marketing industry finally does a Special Report on Web Analytics you have to take notice. Guess we're legit now!  Clicking this link should execute a search of the DM News site and present you with all the articles which tend to be short and contain concrete numbers - like mini case studies.  If the link doesn't work for you, go to the DM News site and search "Web Analytics".

Questions from Fellow Drillers

Segment Customers to Determine LifeTime Value

Q:  I have just been reading your article on Calculating Lifetime Value (LTV) or Lifetime Customer Value (LCV). I am having trouble calculating the lifetime value of our customers.

A:  Yes, well, everybody does for some reason!  Often the problem is too much focus on trying to look at the "average customer" as opposed to segmenting customers.  By segmenting first, it's both easier to get to LTV *and* more useful since it's easier to take action on  a segment than the "average customer".

Q:  Our company provide accounting software solutions to small to medium sized owner operated  businesses.  Because of what we sell and who we sell to, a lot of our customers are most likely to just buy one or two of our software products and unless they sign up for support (only around 15% do), we may never here from them again.  It is therefore very difficult to determine an average / standard lifetime that customers use our product.

A:  Sure.  First, the 15% segment that does sign up for support sound like good customers to me.  So that's one segment.  How long do they typically stay signed up?  That's the average life for this segment.

Then there are probably people who upgrade over time, right?  I can't imagine an accounting product that people would not upgrade - perhaps not every cycle, but every 2nd or 3rd cycle.  That's another segment.  Then there are probably some who both follow the upgrade cycle and pay for support.  These are probably the "best customers" and they are a unique segment as well.  And finally, you have the buyer who makes one purchase and you never see again.  These people are also a segment.

Q:  What should I base it on, how long our customers use our products (which would be almost impossible to determine), or how long they spend money with us?  So I measure on average the time between the first and last transaction of customers who have the highest Recency???

A:  LTV is based on profit, not how long they use the product.  But here we get to the other common problem with determining LTV - what is the "life"?  The answer can be found in your data, or you use your knowledge of the business to approximate.

For example, using your data and looking at best customers, how long have the best ones stayed with you?  That's the maximum life, but you can use it as the "standard" life, if you wish.  A more critical look would be to look at defected best customers - how long did they stay before they left you?

Which begs the question - how do you know when they have left?  Well, if you don't feel comfortable / can't look to the data for this answer, use your knowledge of the business.

For example, does it make sense to you that someone who bought one of these packages 5 years ago and has not upgraded is likely to ever purchase from you again?  They must be on a different platform by now, right?  And if they are not, they are continuing to run the package on an old machine, is this the kind of person / company that is likely to be a future buyer?  I think not.  

So call the LifeTime 5 years and work from there.  Is it 3 years?  Perhaps; simply get agreement internally on what the "right" length is and use that.

Or, go to the customers for the answer.

Survey customers who have not purchased in 2 years, 3 years, 4 years, 5 years etc. and ask them how likely they are to buy from you again.  If you try to contact people who bought 5 years ago and you can't - phone number incorrect, e-mail bounces, etc. - well, you have your answer, don't you?  

If you can't contact the customer, you can't market to them.  

If you can't market to the customer, there is no opportunity to increase the value of the customer.  

If you can't increase the value of the customer, their LifeTime has ended, by definition.

If this same person was to come back and order again, from a marketing perspective, they would really be a new customer, wouldn't they?  With a new company and in a new situation?  Probably, and that is probably how you would treat them anyway, right?

So, a lot of the LTV issue comes down to this:  it has to be actionable.  If  you can't take action on the information, it's not relevant anyway.  So find the easiest way you can justify one way or the other to do the calculations, and move into action on the information.  Some segments will be easier to figure out, some harder.

And remember, what you are really after in the end is to find some way to rank these segments by source and value.  The actionable part of LTV analysis is this:  what is the value of customers we acquire through different marketing efforts?  Once you line up cost to acquire with customer value, then you are on the way to optimizing marketing to drive the highest profitability possible.

Hope that helps!


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That's it for this month's edition of the Drilling Down newsletter.  If you like the newsletter, please forward it to a friend!  Subscription instructions are top and bottom of this page.

Any comments on the newsletter (it's too long, too short, topic suggestions, etc.) please send them right along to me, along with any other questions on customer Valuation, Retention, Loyalty, and Defection here.

'Til next time, keep Drilling Down!

- Jim Novo

Copyright 2005, The Drilling Down Project by Jim Novo.  All rights reserved.  You are free to use material from this newsletter in whole or in part as long as you include complete credits, including live web site link and e-mail link.  Please tell me where the material will appear. 

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