In today’s increasingly cluttered world where businesses are in the quest for sustainable competitive advantage, smart managers have focused more on keeping customers happy rather than just selling products. Numerous ways have been adapted to ensure customers enjoy their experience, from providing good quality products, to great services and building attractive loyalty programs.
Yet, in the midst of this, a paradox emerges: Did you know that a content and loyal customer, driven solely by product quality, can paradoxically drain profitability?
Therefore the efficacy of traditional ‘customer loyalty’ strategies in ensuring profit growth remains uncertain.
Consequently, businesses are progressively embracing the practice of quantifying and orchestrating a more evolved science of building a deeper Customer Lifetime Value (CLTV) to navigate their loyalty initiatives. We explore this below.
What is Customer Lifetime Value (CLTV)?
Customer Lifetime Value is a metric that quantifies the total revenue a business can expect from a customer throughout their relationship. CLTV affects a company’s most important pillar: Its profit. It offers strategic insights into a business’s financial sustainability. This helps in making informed decisions to gauge the loyalty of their customers and simultaneously optimise a business’s profit margins.
CLTV falls under two types:
Historical Customer LTV:
This involves looking at past customer behaviour and purchase history to calculate the average value of customers over a specific period. It provides insights into how customers have contributed to revenue historically.
This model is the simplest because it uses a company’s past data to predict customer value.
Existing customers are assumed to be retained in the future.
Predictive Customer LTV:
This forward-looking approach uses data analysis and predictive modelling to estimate the future value of customers.
It takes into account factors such as customer behaviour, demographics, and market trends.
This model highlights which product generates the highest revenue and helps in identifying the most valuable customers.
Did you know?
The ratio of CAC, the cost of convincing a potential customer to buy a product or service should be 3:1. This means the value of your customer (LTV) should be 3 times more than the cost of acquiring a customer (CAC).
Per data from the United States Small Business Administration, B2C companies, primarily dealing with consumer products, allocate roughly 9.6% of their revenue to marketing, while B2B companies dedicate approximately 11.8% of their revenue to acquiring new customers.
In light of these statistics, it is prudent for businesses to prioritize more critical metrics such as Customer Lifetime Value (CLTV).
While CAC offers insights into revenue production and short-term profitability, CLTV considers the larger picture and assists businesses in putting long-term client connections first.
Evidently, achieving a high CLTV goes beyond simply introducing loyalty programs and consistently offering discounts. Strategic pricing within the market is key in not only increasing revenue but also shaping customer relationships and the overall financial well-being of a business.
Dynamic Pricing:
Prices are adjusted based on real-time market demand and customer behavior. This helps in maximizing revenue while maintaining customer satisfaction.
AI-based pricing can analyze various factors such as customer behavior, purchase history, demand fluctuations, and competitor pricing to dynamically adjust prices in real-time.
This ensures that prices are optimized to maximize revenue while still appealing to customers.
Dynamic pricing increases the likelihood of repeat purchases and higher CLTV.
Evidently, achieving a high CLTV goes beyond simply introducing loyalty programs and consistently offering discounts. Strategic pricing within the market is key in not only increasing revenue but also shaping customer relationships and the overall financial well-being of a business.
Tiered Pricing:
Offering different levels of service or product features at varying price points allows customers to choose the option that best suits their needs and budget, potentially increasing CLTV.
AI can personalize pricing for individual customers based on their preferences, browsing history, and purchase behaviour.
When customers feel they are getting tailored pricing, they are more likely to remain loyal to your brand and make additional purchases over time, increasing CLTV.
Value-Based Pricing:
Pricing products based on the perceived value they provide to customers. Customers are willing to pay more if they perceive higher value.
An essential concept in this pricing strategy is the notion of consumer surplus. Consumer surplus is the difference between the price the consumers have the ability to pay and the price the consumers want to pay.
A higher consumer surplus indicates higher savings from the consumer’s end, thereby indicating a higher CLTV.
Adidas has managed to increase its engagement by 90% by analyzing user patterns and providing personalized and user-specific experiences.
Discounts:
Discounts strategically encourage repeat purchases
Even bundling complementary products or services and offering them at a slightly discounted rate compared to purchasing them individually helps increase customer satisfaction.
These strategies are harnessed in intriguing ways, and in the following sections, we delve into how some of the leading brands in the market have elevated their Customer Lifetime Value (CLTV) by leveraging various parameters and techniques.
A/B Testing:
Continuously testing different pricing strategies to determine which one maximizes CLTV.
A/B testing allows businesses to experiment with different levels of pricing.
Experimenting with pricing strategies can determine which strategy helps in maximizing CLTV.
Crocs tested a scenario where they reduced discounts to low-price sensitivity customers across multiple platforms and optimized promotions aimed at customers who are predicted to churn. It realised a 2x and 10x lift in revenue, respectively.
To read more case studies about CLTV in real life, visit Barnraisersllc.com
Subscription Models:
Subscription-based pricing models could lead to a steady stream of revenue over an extended period.
Subscribers often have higher CLTV as they commit to ongoing purchases.
Customer Segmentation:
This approach involves segmenting your customer base and applying different pricing strategies to each group based on their preferences and willingness to pay.
This tailored approach can help optimize CLTV for each segment.
AI can help segment your customer base into different groups based on various characteristics like demographics, geography, or purchase history.
This allows one to apply different pricing strategies to each segment, optimizing CLTV by catering to the unique needs and willingness to pay.
Nike used a segmented pricing strategy. Despite being a well-known brand, Nike realized the necessity of reevaluating its audience and marketing approaches for the Hong Kong market. Analyzing insights generated from a particular segment, Nike launched a targeted campaign that increased website traffic by 32.5%.
Customer Churn:
Customer churn measures the percentage of customers who have stopped using your product or services.
High churn rates can negatively impact CLTV, which indicates potential long-term revenue loss.
Pricing strategies hold influence over customer churn rates, highlighting the importance of striking a balance between attracting new customers and retaining existing ones.
AI models can identify customers at risk of churning
An online streaming service like Netflix constantly faces the problem of customer churn, as some subscribers occasionally cancel their subscriptions due to price sensitivity or changing preferences. Incorporating AI-based pricing strategies, such as dynamic pricing, segmentation, predictive analytics, price optimization, and content personalization, Netflix significantly reduced its customer churn to as low as 2.4%.
It is worth noting that behavioral approaches are just as crucial as pricing strategies in shaping and maximizing a business’s Customer Lifetime Value (CLTV).
Voice of the customer (VOC): A customer’s voice helps in recognising a customer’s expectations and problems. AI-based engines can analyse customer feedback and sentiment data to understand how customers perceive pricing changes. This information can guide pricing adjustments to maintain customer satisfaction and loyalty.
Upselling: This involves getting an already existing customer to switch or upgrade to a higher version of the product/service that is currently being used. AI-based engines can analyse customer feedback and sentiment data to understand how customers perceive pricing changes. This information can guide pricing adjustments to maintain customer satisfaction and loyalty.
Regular Price Audits: Periodically reviewing pricing strategies ensures they align with market conditions, customer preferences, and your business’s financial goals.
Acquisition Focus on acquiring high-value customers who are likely to make repeat purchases and stay loyal to your brand.
Monitoring Customer Feedback: Pay attention to customer feedback and reviews to identify areas where your pricing may be a barrier to customer satisfaction. Adjust pricing accordingly.
By adopting effective pricing strategies and continually monitoring and adapting to customer needs, you can optimize CLTV and ensure long-term success and profitability.
How we can calculate Customer Lifetime Value by using a Formula:
Assuming there is an online company where an average customer spends 100$ with a purchase frequency of 8 times/year and if the company expects the customer to continue for 2 years.
Then,
Average Purchase Value (AVP) = 100 $
Average Frequency Rate (AFP) = 8
Average Customer Lifespan (ACL) = 2 years
Hence, CLTV = APV*AFR*ACL
= 100*8*2
= 1600 $
This means the company is generating a revenue of 1600 $ from each customer and this revenue can be increased or decreased by changing the metrics such as Price, Purchase frequency and for how long a company can retain the customer.
Unquestionably, pricing has a significant impact on Customer Lifetime Value (CLTV). It is crucial in determining both an organization’s short-term revenue streams and its long-term consumer relationships. Companies can fully utilize CLTV by adopting intelligent pricing strategies and which helps businesses maintain profitability, consumer loyalty and guarantee their standing in the market.
To keep up with this dynamic environment, it is imperative to learn how AI pricing engines can help you do that.
Book a free demo of our automated retail solutions or contact our optimization experts at info@sciative.com.
To learn more about our AI-powered dynamic pricing tool BRIO, reach out to us.
