Customer Lifetime Value As A Marketing Organizing Principle

CMO EXCLUSIVES | February 18, 2013

by John Parker
Adjunct Professor
Northwestern’s Kellogg School of Management

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A friend of mine took a new position as a financial-services CMO a few years back, and quickly was able to add value by shifting resources to more productive uses.

In an early update with his CEO, he proudly described changing media mixes, killing dozens of small projects while starting a small number of large, high impact ones, and restructuring to make room for high-talent recruits.

My friend, however, was taken aback by his boss’ immediate reply: “I am glad we are figuring out where to spend, but the more pressing questions are how much should we spend, and can we possibly spend less?” My friend shouldn’t have been surprised, but he could have been much more prepared, as this article will illustrate.

Marketing Skepticism
Marketing spend is lower in financial services than in other industries, and marketing is often viewed with skepticism. Many areas within financial services are not marketing-oriented, for several reasons. First of all, the financial-services industry involves taking risk–either lending money or accepting obligations to cover losses–and so there has always been a justifiable caution around growth that isn’t tightly managed. And marketing is all about growth.

This caution regarding marketing also stems from the fact that there is less marketing heritage in the financial-services C-suite. Unlike other industries, CEOs rarely have marketing backgrounds, but are often from finance, sales, or operations. Furthermore, the systematic assumption of risk requires well-structured products, but (unfortunately) doesn’t always result in a deep appreciation for the needs of customers. Financial-services organizations are often organized around products, frequently organized around geographies, but rarely organized around customer segments.

This natural skepticism and focus on products rather than customers is reinforced by the fact that marketing doesn’t design and measure itself to explicitly create financial value, and common metrics aren’t intuitive to nonmarketers. CEOs and CFOs don’t naturally relate to metrics, such as awareness, brand equity, click-through rates, or social-media followers–they are looking for financial results. And even when marketing ROI is considered, it is rarely done so comprehensively; typically some initiatives and functions are measured in these terms, while others are not.

Customer Lifetime Value
This challenge can be met with a Customer Lifetime Value (CLTV) approach to evaluate marketing impact as well as to choose customer segments. CLTV is a function of three key metrics: First, the total margin generated from the customer base in a given year is central. Second, the churn rate (percentage of customers that do not buy in the following year) matters a great deal. Finally, the acquisition cost of a new customer has a huge impact on total value.

These three metrics, along with a discount rate and assumptions about time frames, are all it takes to calculate the total amount of value embedded in a company’s customer base. This, in turn, can serve as the basis for measuring marketing’s total contribution to the enterprise.

The most common use of the CLTV approach is to estimate the relative value of different customer segments, and then prioritize the segments with the greatest value for growth while de-emphasizing others. But organizing marketing to improve the performance of three key ingredients–lowering acquisition costs, raising total margins, and reducing the churn rate–can be an even more powerful application of CLTV for CMOs.

Each of the core activities within a strong marketing function–customer insight, product and service development, brand management and communications, and customer relationship management–can be assessed in the context of the likely impact on one or more of the three CLTV metrics. For example, how much can superior customer insight that leads to the development of a new product add to total margins? How much can a social media campaign affect the churn rate? And what can greater brand equity do to acquisition costs in a competitive product category?

CLTV also gives a more complete–and generally greater–estimate of the amount of value created by marketing initiatives because it considers total value created over time. This can support the case for more appropriate–and generally greater–levels of resources. If CLTV serves as the “R,” then many more initiatives will have an ROI that meets internal requirements.

Advantanges Of A CLTV Approach  
The CLTV approach allows for consideration of key strategic questions, such as:

  • Trade-offs between pricing for maximum margin and minimizing the churn rate.
  • The effect of strengthening a brand on lower acquisition costs. Buyers will choose your product more often for the same investment in distribution.
  • The value of customer insight that supports development of more comprehensive product sets, thereby raising margins per customer.
  • Clear understanding of the impact of number of products in the relationship on retention of any given product. Revenue from multiline customers has far more value than revenue from monoline customers.
  • Impact of digital marketing and social media on both acquisition costs and churn rates; subscribers and followers will buy more often and be more loyal.
  • The choice of customer segments to focus on or de-emphasize.

Equally important, the CLTV approach allows CMOs to ask tough questions on behalf of their CEOs and CFOs–which CLTV lever will any given activity, initiative, or request impact, why, and by how much? If the answer isn’t compelling, then you can likely put your resources elsewhere. Furthermore, it allows CMOs to build a queue of projects ranked by expected impact on CLTV and resulting true ROI–and then work with CEOs and CFOs to balance cost and revenue imperatives in a partner-like way

Finally, CLTV provides the underpinning for true customer centricity. The value of the enterprise can be described as the total value of its customer relationships, adjusted upward based on prospects for growth. And isn’t keeping the customer in the center of everything we do what marketing is ideally all about?

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1 Comments to “Customer Lifetime Value As A Marketing Organizing Principle”

  1. Zachery Lindman says:

    Howdy! This post couldn’t be written any better! Reading through this post reminds me of my previous room mate! He always kept chatting about this. I will forward this page to him. Pretty sure he will have a good read. Thank you for sharing!

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