Lifetime value.

Let’s talk about one of the most misunderstood metrics in e-commerce and specifically how it relates to a subscription business. Lifetime value: A lot of our clients sometimes get this confused with lifetime spend, which is the gross amount that any given customer is going to spend over the lifetime of that customer. But really what matters is lifetime value, because that includes things like:

• how average order value is changing over time
• how your margin is changing over time
• your customer acquisition costs over time

It is imperative that this is defined for your business. So often I see people using a generic Shopify app or some other tool to automatically calculate this for them, unfortunately, those tools do a very poor job in communicating how exactly that lifetime value is calculated. More often than not, these tools are not going to have access to all the data inputs that need to be in this calculation, specifically on the cost side. If you’re pulling something from Shopify it’s only going to see the revenue numbers and maybe some basic cost data that you’ve inputted. Very rarely is it going to be able to give an accurate metric where you can actually make decisions. Let’s look at some examples that we’ve done for our clients. This is a relatively straightforward cohort analysis of a subscription business, and you can see how many new subscribers there are, how many one-time purchasers there are, what the customer acquisition costs have for the period or the blended customer acquisition cost across these different customer types. And then ultimately what we really care about is the 12 month lifetime value. So you have the subscribers, 18 month, and 24 month. This all really starts with what is my lifetime value per subscriber. So here we have the expected revenue for those subscribers, and this has a lot of different items baked into it.

• The average order value, not only at the time of first purchase, but for subsequent purchases as well, assuming that average order value is going up, you’re doing upsells cross sales, you’re increasing prices, all those different kinds of things.
• The lifetime value is also assuming that you’ve included all your product costs and these product costs hopefully are going down.
• Your customer acquisition costs. This is a little complicated as well because you’re probably spending the majority of your marketing costs to acquire the customer on the front end, but you may be offering a lot of discounts or some sort of VIP offerings. This needs to be considered on how it is applied over the customer’s lifetime value.

Ultimately you get to the number, here in our example it is 1.2. And what does this really mean? And what does this really mean? This basically means for every dollar that I spend to acquire those customers, I’m going to get back a dollar and 20 cents over the next 12 months. So you may ask yourself, is that good? What is good? What’s bad? Well, certainly you want something above 1, anything below 1 means you’re not making money. The conventional wisdom is you want to get this number to as close to 3 as possible. But again, that could vary over the timeframe of your business. Are you launching new products? There are different components to consider.  I would say you want, for a 12 month timeframe, to get this to a minimum of 2. And we have to also recognize that you’re going to realize the profit. So the $1.20 minus the dollar that you’re giving up. 20 cents, you’re going to recognize that profit over the course of the year. We also have to consider what the impact is on cash. Do I have enough cash to continue to make this dollar for dollar 20 trade, throughout the year? And how fast can I afford to grow? How many subscribers can I afford to take on every month?  These are all the types of questions that we grapple with with our clients on a day to day basis. If you want to learn more, I would absolutely love to talk to you.