LTV (Lifetime Value)
The predicted net profit attributed to the entire future relationship with a customer.
Definition
Customer Lifetime Value (LTV) is a prediction of the net profit attributed to the entire future relationship with a customer. It represents the total amount of money a customer is expected to spend on your business, or products, during their lifetime.
LTV helps businesses make important decisions about sales, marketing, product development, and customer support by understanding the long-term value of acquiring and retaining customers.
Why It Matters
- Investment Justification: Determines how much you can spend to acquire customers
- Business Model Validation: Shows if your business model is sustainable long-term
- Customer Segmentation: Identifies your most valuable customer segments
- Resource Allocation: Guides where to invest in customer success and retention
How to Calculate LTV
Basic Formula:
LTV = ARPA × Gross Margin % × (1 / Churn Rate)
Alternative Formula:
LTV = (Monthly Revenue per Customer × Gross Margin %) / Monthly Churn Rate
Where:
- ARPA = Average Revenue Per Account
- Gross Margin % = (Revenue - COGS) / Revenue
- Churn Rate = % of customers who cancel per month
Real-World Example
SaaS Company Example: A subscription software company has:
- Average monthly revenue per customer: $100
- Gross margin: 80%
- Monthly churn rate: 5%
LTV = ($100 × 80%) / 5% = $80 / 0.05 = $1,600
This means each customer is worth $1,600 on average over their relationship with the company. With this LTV, the company can justify spending up to several hundred dollars to acquire each customer.