Customer lifetime value calculator

How to calculate customer lifetime value

Multiply what a customer spends in a year by your gross margin, then by the number of years they stay:

Customer lifetime value = average order value × orders per year × gross margin % × years a customer stays

Using gross margin rather than sales is deliberate. A customer who spends £7,200 with you over four years hasn't made you £7,200; once the goods are paid for, what's left is their contribution to overheads and profit. A lifetime value built on revenue makes almost any marketing spend look affordable.

The second calculator sets that value against customer acquisition cost (CAC) = sales and marketing spend ÷ new customers won over the same period.

Where to find the numbers

• Average order value: the last twelve months' sales divided by the number of orders or invoices.
• Orders per year: the number of orders divided by the number of customers who bought at least once in those twelve months.
• Gross margin: from your P&L, or from the gross margin calculator for a single range.
• Years a customer stays: divide 1 by the share of customers you lose each year. Losing a quarter of them a year means an average stay of four years. If you don't track losses yet, count how many of the customers who bought three years ago still buy.
• Acquisition spend: everything spent on winning new business, including the pay of the people whose job it is, not only advertising.

Worked example

A fictional 22-person coffee supplier sells beans, milk and machine servicing to offices. Its average order is £180, customers order ten times a year and its gross margin is 40%. It loses about a quarter of its customers each year, so it assumes a four-year stay.

Each customer brings in £1,800 of sales and £720 of gross profit a year, so the lifetime value is £2,880, on £7,200 of sales. Last year the company spent £36,000 on a part-time sales manager, two trade shows and online ads, and won 45 new customers: £800 each. Lifetime value is 3.6 times acquisition cost, and each new customer leaves £2,080 of gross profit once the cost of winning them is covered. These are the defaults in both calculators.

The figures also show the timing. At £720 a year, a new customer takes about 13 months to earn back the £800 spent winning them, so growing faster would need cash up front.

How to read the answer

Lifetime value is a ceiling, not a budget: it's the most a customer is worth in gross profit, before the overheads that also have to be paid. Use it to:

• Set acquisition spend. A ratio above 1 means customers repay what it cost to win them. How far above 1 you need to be depends on your overheads and how long you can wait for the money.
• Compare customer groups. Work it out separately by channel or customer size; an average can hide a group worth twice as much as another.
• Decide where keeping customers is worth the effort. Every extra year of average stay adds a full year of gross profit to every customer.

Judge the trend against your own history. If lifetime value is falling while acquisition cost rises, you're paying more for customers who are worth less, whatever the ratio says today. The budget section of your marketing plan is where that should show.

Common mistakes

• Using revenue instead of gross profit, which inflates the value by the cost of everything you sold.
• Guessing how long customers stay. Base it on your own record of customers lost, not on hope.
• One average for very different customers. A national account and a one-off buyer shouldn't share a number.
• Leaving salaries out of acquisition cost, which makes winning customers look cheaper than it is.
• Ignoring the cost of serving customers. Account management, credit control and returns aren't in gross margin, so a group that needs far more of them is worth less than its figure suggests.
• Treating distant years as certain. Profit five years away is less sure than profit next year, so be careful with long lifetimes.