Group C10

Marketing 3- Reading Summary

CUSTOMER PROFITABILITY AND LIFETIME VALUE

Customer Profitability (CP) is the difference between the revenues earned from and the costs associated
with the customer relationship during a specified period.

CUSTOMER ACQUISITION COST

Acquisition cost quantifies the resources used to get a new customer on a per customer basis. This
includes the cost of all the production, promotions, mailing etc. that the company has used to gain a new
customer. Response rate is the percentage of customer actually responded by buying your
products/services.

𝐶𝑜𝑠𝑡 𝑜𝑓 𝑅𝑒𝑠𝑜𝑢𝑟𝑐𝑒𝑠
𝐴𝑐𝑞𝑢𝑖𝑠𝑖𝑡𝑖𝑜𝑛 𝐶𝑜𝑠𝑡 =
𝑅𝑒𝑠𝑝𝑜𝑛𝑠𝑒 𝑅𝑎𝑡𝑒

CUSTOMER BREAK-EVEN ANALYSIS

Break-even analysis helps the company to find out how many years it will take for each customer to
realize profits for the firm. Survival rate is the likelihood that a customer acquired today will remain a
customer next year. For calculating the break-even point we use the following formula for different years:

𝑇𝑜𝑡𝑎𝑙 𝑒𝑥𝑝𝑒𝑐𝑡𝑒𝑑 𝑝𝑟𝑜𝑓𝑖𝑡 𝑝𝑒𝑟 𝑐𝑢𝑠𝑡𝑜𝑚𝑒𝑟 = 𝑆𝑢𝑟𝑣𝑖𝑣𝑎𝑙 𝑓𝑎𝑐𝑡𝑜𝑟(𝑀𝑎𝑟𝑔𝑖𝑛 𝑔𝑎𝑖𝑛𝑒𝑑 − 𝑐𝑜𝑠𝑡 𝑜𝑓 𝑝𝑟𝑜𝑚𝑜𝑡𝑖𝑜𝑛)

𝐶𝑢𝑚𝑢𝑙𝑎𝑡𝑖𝑣𝑒 𝑝𝑟𝑜𝑓𝑖𝑡𝑠 𝑝𝑒𝑟 𝑐𝑢𝑠𝑡𝑜𝑚𝑒𝑟 (𝑛𝑒𝑡 𝑜𝑓 𝑎𝑐𝑞𝑢𝑖𝑠𝑖𝑡𝑖𝑜𝑛 𝑐𝑜𝑠𝑡) = 𝐶𝑢𝑚𝑢𝑙𝑎𝑡𝑖𝑣𝑒 𝑝𝑟𝑜𝑓𝑖𝑡𝑠 − 𝑎𝑐𝑞𝑢𝑖𝑠𝑖𝑡𝑖𝑜𝑛 𝑐𝑜𝑠𝑡

The year in which the cumulative profits per customer (net of CAC) reaches positive, we say that the
break-even point has been achieved.

CUSTOMER LIFETIME VALUE ANALYSIS

Customer Lifetime Value (CLV) is the present value of the future cash flows attributed to the customer
relationship. The CLV model has only three parameters: (1) constant margin (contribution after deducting
variable costs including retention spending) per period, (2) constant retention probability per period, and
(3) discount rate. Furthermore, the model assumes that in the event that the customer is not retained,
they are lost for good. Finally, the model assumes that the first margin will be received (with probability
equal to the retention rate) at the end of the first period.

One expression for customer lifetime value has been provided below:
𝑁
(𝑀𝑎𝑟𝑔𝑖𝑛 − 𝐶𝑜𝑠𝑡 𝑜𝑓 𝑝𝑟𝑜𝑚𝑜𝑡𝑖𝑜𝑛)(𝑟𝑒𝑡𝑒𝑛𝑡𝑖𝑜𝑛 𝑟𝑎𝑡𝑒).𝑎−1
𝐶𝐿𝑉1 = ∑ − 𝐴𝑐𝑞𝑢𝑖𝑠𝑖𝑡𝑖𝑜𝑛 𝐶𝑜𝑠𝑡
(1 + 𝑑𝑖𝑠𝑐𝑜𝑢𝑛𝑡 𝑟𝑎𝑡𝑒)𝑎
𝑎=1

where N= number of years of relationship.

If margin and cost are relatively fixed across a period, one can simplify the expression assuming infinite
economic life:

𝑀𝑎𝑟𝑔𝑖𝑛 − 𝑐𝑜𝑠𝑡
𝐶𝐿𝑉2 = − 𝐴𝑐𝑞𝑢𝑖𝑠𝑖𝑡𝑖𝑜𝑛 𝐶𝑜𝑠𝑡
1 − 𝑟𝑒𝑡𝑒𝑛𝑡𝑖𝑜𝑛 𝑟𝑎𝑡𝑒 + 𝑑𝑖𝑠𝑐𝑜𝑢𝑛𝑡 𝑟𝑎𝑡𝑒
 Group C10
Marketing 3- Reading Summary

STRATEGIC IMPLICATION OF CLV ANALYSIS

CLV helps you determine in which existing customers to invest and which types/profiles of customers
produce the highest CLV. We can use these profiles to acquire new customers that best resemble your
existing high value customers. CLV can serve as a valuable guide for deciding how much to spend on
acquiring a new customer.

When a company has calculated CLV, it is in a position to evaluate its customer base and devise market
strategy for segments accordingly. Common actions taken by companies include:

 “Firing” Customers: Company may try to shed the least performing individuals in terms of
returns by simply raising the prices of least profitable products
 Rewarding Customers: Firm may choose to reward loyal customers with discount vouchers or
preferential services.
 Identifying Cross-selling Opportunities: Firms can identify opportunities to offer additional
or related products.
 Forecasting Innovation Value: Firms seek to understand the long term profitability of an
innovation they are about to launch or that has recently been introduced, to assess ROI. We can
also combine two key marketing frameworks, innovation diffusion and customer lifetime
value, to perform this forecasting task.

CLV AND RELATIONSHIP MARKETING

• People who are not actually customers but can be converted into one
Prospects
• Showcasing your competencies and developing expectations to attract customers

• After making the first buy, customer enters this stage

First-Time • Risk of defection is usually high; lowest retention rate; product not fully explored
Buyers

• Customers fall into this range after atleast one repeat purchase
• Confidence in the firm grows; Perception of value from the firm increases; defection
Early Repeat
Buyers reduced

• Rate of defection is typically low; most valuable assets of organization;

• High retention rates; Customers, unless faed by high level of dissatisfaction, donot defect
Core
Customers

• Increased Competition + inconsistent delivery of service by the firm

• Uncontrolable factors such as changes in external enivronment
Core
Defectors • Controlable factor, if identified and resolved correctly can bring back defectors