How to Calculate Lifetime Customer Value

By Chuck McKay, Wizard of Ads Partner

In “How to Make Money by Losing Money,” we introduced the concept of back end sales, and suggested it was worth giving away a $400 (retail) cellular telephone in order to get a $100 per month cellular telephone service contract.

How did we know? We simply subtracted the cost of the premium (the front end transaction) from the sum of back end profits over the lifetime of the vendor/customer relationship. In Part 3 we’ll learn how to use the Customer Lifetime Value to calculate useful things, like ad budgets.

Our hypothetical telephone company is a small start up. It has 3,500 customers, each locked in to a twenty-four month service agreement. The company’s net profit is $297,500 per month.

Over the first year of the contract those 3,500 customers will produce $7,140,000 in profit - approximately $1,020 each.

They will also produce $955 each in the second year. (There will frequently be a difference between year one and year two. More on that in a minute).

This means that even if every single customer stops doing business with this company, the lifetime value (profit) of every new customer this phone company can acquire is still $2,040.

Calculating LCV for your business.

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