Using Lifetime Value to Determine Your Marketing Strategy Arthur Middleton Hughes VP Strategic Planning M\S Database Marketing DMA 83 rd Annual Conference New Orleans, LA Tuesday, October 17th 4:30 – 5:30 PM

 Customer Management  Internet Services Competitive Advantage Through Advanced Technology

Companies Lack Marketing Strategy To develop a relationship program, you still have to put individuals into groups, and develop products and strategies that will keep them loyal. That, in my opinion is where companies have the most difficulty. Even when you say to them, “I can help you to identify your key customer segments.” They respond, “Well, great. But tell me, what to do with them once they are identified. How do I manage each segment?” Marketers are not yet sophisticated enough to know what to do with the information. -- Stephen Shaw - VP Spectrum Decision Sciences

The importance of measurements Measures determine vision and strategy Deciding what to measure and how to link measures to incentives are the most important database marketing decisions “Net present value of the customer base should be at the top of the measurement heirarchy” -- Reichheld

Two Kinds of Database People  Constructors People who build databases Merge/Purge, Hardware, Software  Creators People who understand strategy Build loyalty and repeat sales  You need both kinds!

Examples of Profitable Strategies  User Groups  Newsletters  Surveys and Responses  Integrate your web site with the database  Customer and Technical Services  Membership cards and status levels  Event Driven Communications

Event driven communication: Dear Mr. Hughes: I would like to remind you that your wife Helena’s birthday is coming up in two weeks on November 5th. We have the perfect gift for her in stock. As you know, she loves Liz Claiborne clothing. We have an absolutely beautiful new suit in blue, her favorite color, in a fourteen, her size, priced at $ If you like, I can gift wrap the suit at no extra charge and deliver it to you next week, so that you will have it in plenty of time for her birthday. Or, I can put it aside so you can come in to pick it up. Please call me at (703) to let me know which you’d prefer. Sincerely yours, Robin Baumgartner Robin Baumgartner, Store Manager Ridgeway Fashions Leesburg, VA 22069

Strategy Problems:  Building a database costs money  Communications cost money  Success is not assured  How can you make sure that your proposed strategy will be profitable?

Solution: Test Strategies with Lifetime Value Analysis  Compute present lifetime value  Estimate benefits from the strategy  Estimate costs of the strategy  Compute revised lifetime value

What is lifetime value?  Net present value of the profit to be realized on the average new customer during a given number of years.  Lifetime value is “Good Will”  To compute it, you must be able to track customers from year to year  Main use: To evaluate strategy

Lifetime Value Without Birthday Club

How to figure the Discount Rate  Market Rate of Interest...8%  Assume Risk (Double rate)...16%  Years = n Interest = i  Formula: D = (1 + i) n  Calculation of rate after 2 years:  D = (1 +.16) 2 = (1.16) 2 = 1.35

Long term customers buy more often

Long term customers buy higher priced items

How to figure the Retention Rate  Track all customers who bought in Year1  How many of them still bought in Year2?  Divide Year1 into Year2  Example: 12,240 customers made a purchase in the first year of acquisition 7,836 of these made a purchase the next year Retention rate = 7,836 / 12,240 = 64%

Retention rates go up over time

To compare retention periods - convert to annual 99% per week = 60% per year 45% repurchase after 4 years = 82% annually 77% repurchase after 11 years = 98% Formula: Annual Rate = (Repurchase rate) (1/years) Annual Rate = (.77) (1/11) = 98%

How to figure costs  “The extra profit you earn by adding one more customer”  Costs decrease with long term customers  Include any variable costs that increase with each new customer  Do not include fixed costs: rent, long term debt, overhead

Costs of servicing customers go down over time

Lifetime Value With Birthday Club

Gains from Birthday Club

What is the proper computation period?  Which is the correct lifetime value? 1, 2, 3, 4, 5 or more years?  They are all correct. Which you use depends on your product or service.  Long lifetimes: banks, insurance, utilities, automobiles  Short lifetimes: discount houses, package goods, catalogers

Auto Insurance Takes 3 Years for LTV to be positive

Life Insurance Takes 5 Years

Credit Cards Snap Back in One Year

Five ways to increase lifetime value  Increase the retention rate  Increase the referral rate  Increase the spending rate  Decrease the direct costs  Decrease the marketing costs

How to maximize LTV The only way to maximize LTV is to earn the loyalty of the most profitable customers by giving them superior value

Marketing to Customer Segments GOLD Spend Service Dollars Here Spend Marketing Dollars Here Reactivate or Archive Your Best Customers - 80% of Revenue Your Best Hope for New Gold Customers Move Up 1% of Total Revenue These may be losers

Computing LTV Quintiles  Compute LTV for groups of customers  Firm Value = LTV times customers  Devise different programs for each customer group  Estimate improved firm value based on better targeting of benefits and marketing programs

Don’t Treat All Customers Alike

Using lifetime value to get budget approval  Database marketing budgets are usually carved from somewhere else  You have to prove that you will make better use of the funds than the others  Lifetime value can supply testable numbers that CFO’s can understand  Base your budget on solid numbers backed up by valid tests

Gains from Birthday Club

Lifetime Value With Birthday Club

Using lifetime value to get budget approval  Database marketing budgets are usually carved from somewhere else  You have to prove that you will make better use of the funds than the others  Lifetime value can supply testable numbers that CFO’s can understand  Base your budget on solid numbers backed up by valid tests

Lifetime Value as Information Powerhouse  Lifetime Value more important measure of success than the stock value  Put Retention and Referral rates and LTV on the CEO’s desk every month  You alone, in your company, know this vital success measure  A new way of thinking -- long term thinking -- about business success

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