Customer Lifetime Value vs. ROI Marketing Measures

Transcription

1 Customer Lifetime Value vs. ROI Marketing Measures Supporting Analysis for Marketing Management Article Marketing ROI: Playing to Win The article Marketing ROI: Playing to Win (Jim Lenskold, Marketing Management, May/June 2002) presents Marketing ROI as the ultimate marketing measure and demonstrates how other valuable measures such as Customer Lifetime Value (CLV) can often be used incorrectly. This white paper provides a more detailed analysis of a published theory claiming that an increase in CLV is more profitable than a decrease in acquisition marketing expense. The goal of this analysis is not to discredit the strategy of maximizing CLV and customer loyalty, but to make clear the importance of Marketing ROI as a planning and analysis tool. Copyright 2002 Lenskold Marketing Group

2 Introduction The key difference between making marketing decisions based on maximizing customer lifetime value (CLV) or return on investment (ROI) is that the ROI measure will provide a complete picture of the profits relative to the investment. ROI analysis aligns with decisions marketing managers must make with respect to choosing how to invest limited budgets. The theory from a previously published article is replicated here, along with an additional ROI analysis. The question at hand is whether a 20% increase in revenues over a customer s lifetime has more value than a 20% decrease in acquisition expenses. The assumptions for this example are based on an baseline marketing program that generates $2,400 in revenue/customer and $600 in net profit/customer on an acquisition cost of $1,200. The following chart shows the initial calculations of customer lifetime value: Annual Revenue/Customer $2,400 Annual Costs/Customer (75%) $1,800 Annual Net Profit/Customer $ 600 Average Customer Lifetime 5 Customer Lifetime Value (total net profit not discounted for simplicity) $3,000 Acquisition Cost $1,200 Return (considered net CLV) $1,800 The comparison of a 20% decrease in acquisition cost to a 20% increase in revenue results in the following: Copyright 2002 Lenskold Marketing Group Page 2 of 7

3 20% decrease in Acquisition Cost 20% increase in Revenue Annual Revenue/Customer $2,400 $2,400 $2,880 Annual Costs/Customer (75%) $1,800 $1,800 $2,160 Annual Net Profit/Customer $ 600 $ 600 $ 720 Average Customer Lifetime Customer Lifetime Value (total net profit not discounted for simplicity) $3,000 $3,000 $3,600 Acquisition Cost $1,200 $ 960 $1,200 Return (considered net CLV) $1,800 $2,040 $2,400 Change in Return (and net CLV) 13.3% 33.3% The author of the original publication made the conclusion that increasing revenue has a greater impact on the net customer lifetime value, which in this simplified example is equivalent to the return. No doubt, increasing CLV is important and valuable. The debate that exists is what a marketer should do with the information generated from this analysis. Some proponents of CLV would suggest that given the choice between these two marketing programs, the appropriate selection is to increases the net CLV. That would be a costly mistake. The Missing ROI Analysis At the corporate, department and campaign level, it is critical to prioritize making investments based on achieving the highest return possible, assuming the appropriate form of ROI measures are in place. In a sophisticated marketing organization, the company will generally fund marketing programs that can achieve a minimum ROI (the hurdle rate ). Assuming these two marketing programs are mutually Copyright 2002 Lenskold Marketing Group Page 3 of 7

4 exclusive, our additional ROI analysis demonstrates the financial impact of each program. The charts from the initial example contain the investment and return figures which are needed for the ROI analysis. 20% decrease in Acquisition Cost 20% increase in Revenue Return (Net CLV) $1,800 $2,040 $2,400 Investment (acquisition cost) $1,200 $ 960 $1,200 ROI 150% 213% 200% Both new programs show an increase in ROI over the baseline program. The second program offer more profit to the company but at a lower ROI. The Marketing ROI analysis presents a clear picture because it takes into consideration both the cost side and profit side of the equation. Budget reductions from one program present an opportunity for additional investments either into the same program or elsewhere in the company, a value that was not considered in the original analysis. The Investment Perspective The impact of choosing the marketing program with the higher CLV over the one with the higher ROI becomes clear when viewed from the perspective of investing a fixed marketing budget. The two opportunities can be compared using a $100,000 budget. The acquisition cost in the initial examples will drive how many customers can be acquired with the budget. The program with the lower acquisition cost has the advantage of reaching additional customers. Copyright 2002 Lenskold Marketing Group Page 4 of 7

5 The net value per customer will then be applied to the number of customers acquired to calculate the total return to the company. 20% decrease in Acquisition Cost 20% increase in Revenue Investment $100,000 $100,000 $100,000 Acquisition Cost From Above $ 1,200 $ 960 $ 1,200 # of Customers That Can Be Acquired Customer Lifetime Value (total net profit not discounted for simplicity) $3,000 $3,000 $3,600 Total Return to Company $250,000 $312,500 $300,000 By most standards, this would be considered a significant difference in profits. The ROI analysis did not require any additional information than was already available in this case just the mindset to take the measure further. Similar examples could be shown to compare the shortcomings of relying upon measures based on cost per sale and response rates without an ROI analysis. Beyond the Simplified Analysis The examples above were simplified to demonstrate specific points. Reality is much more complex and Marketing ROI can have even greater value if used appropriately. Listed here are some highlights of the power of the Marketing ROI measure. Applying a discount rate to more accurately reflect the future value of money allows comparison between marketing opportunities that differ in the timing of profits and expenses. Copyright 2002 Lenskold Marketing Group Page 5 of 7

6 The net profit (or customer lifetime value) can be modified to include the referral value of a customer. Advanced ROI analytics can be applied to assess the value of an initial marketing investment on future marketing investments. For example, marketing programs that acquire new customers may provide added value to future marketing programs that can generate more profits from a large customer base. Capturing and using this information to effectively guide marketing investments requires sophisticated techniques and processes. Marketing ROI is a powerful tool that can be used in many different ways to support goals at the corporate, department and campaign level. Each marketing measure, including customer lifetime value, can provide significant insight that is useful in guiding marketing strategies. Understanding the strengths and limitations of each measure can help prevent costly errors. About Lenskold Marketing Group Lenskold Marketing Group provides high level strategic consulting and marketing management services to accelerate profitable growth for clients. Our senior level marketing experts and strategic partners deliver the full range of traditional and online services in effectively integrated campaigns. Consulting services and workshops are available to improve marketing performance through more advanced Marketing ROI processes. Copyright 2002 Lenskold Marketing Group Page 6 of 7

7 Upcoming Publications & Speaking Engagements Marketing ROI: Playing to Win Article in Marketing Management, May/June 2002 issue. Marketing ROI: Multi-Level Measures for Multi-Channel Campaigns Presentation at DM Days conference, June 17, 2002 (visit for details) Marketing ROI: Managing Customer Relationships Profitably Presentation at CRM ExecuSummit conference, July 17, 2002 (visit for details) Marketing ROI: How to Plan, Measure and Optimize Strategies for Profits Forthcoming book to be published in 2003 Additional Articles & White Papers To stay informed of new information, send your contact information by to Current Marketing ROI Workshop Programs Projecting & Measuring Marketing ROI Using Advanced ROI for Optimizing Marketing Profits Deriving Marketing Strategy from ROI Measures Capturing True Customer Lifetime Value Retention Marketing Measurements Other Marketing ROI Services Marketing Measurements Audit ROI Measurement Systems Audit Marketing ROI Consulting and Implementation Services Contact Information Lenskold Marketing Group 86 South Street, Suite A1 Morristown, NJ Phone: Visit for more information. Copyright 2002 Lenskold Marketing Group Page 7 of 7