Customer Life Time Value

Woman Doing CalculationsI just fired up an old laptop to retrieve a document.  This was a list of topics I planned to write about, and I thought it would be instructive to review the list.  I had searched through all my current folders several times when it occurred to me that it was created a while ago and it might me on the old Sony.  It took a little work to get the computer working.  When I located the file I checked the date:  May 18, 2005.  The very first item on the list was “Lifetime value of a customer.”

I was first exposed to the concept when I read Customers for Life by Carl Sewel.  I wrote a post about Sewel a couple of years ago.  His book was published in 1990 and at the time Sewel calculated the life time value of his customers at $330,000.  In 23 years I’m sure that value has gone up, and the number is going to be different for every business.

I have a renewed interest in the concept as I have been studying marketing metrics.  This spring I audited a University of Calgary, course called “Metrics and Measurement” taught by Jeff Nelson and Joanne O’Connell.  The text book for the course is “Data-Driven Marketing: The 15 Metrics Everyone in Marketing Should Know” by Mark Jeffery  The course is excellent and one I recommend.

Sewel`s number was a life time sales number.  The academic approach and a perspective that a business owner should be taking today, treats Customer Life Time Value (CLTV or CLV) as a forward looking metric that predicts future profits represented by a customer.  In effect it is a present value of a customer relationship.  If the relationship were viewed as an asset what would its value be?  This number allows a company to set an upper limit on what it is prepared to spend to acquire a new customer (customer acquisition) and the lengths they would go to, to keep a current customer (customer retention).   In future posts I will expand on these two very different metrics.

I won’t go into CLTV formulas and such here but  a good overview of the concept can be found in Wikipedia here.

Starting a Business

Kid's lemonade stand is a classic business.
The perfect business. Photo credit “The Citrus Report.”

Anyone can start a retail business.  Two words . . . Lemonade Stand!  Am I right?  All retail business is pretty simple, it’s exactly like your childhood project, just scaled up.  Open up for business with a popular product, in a location with some traffic and charge a fair price, badda-bing-badda-boom.  Let’s analyse a bit, let’s see, rent – zero, wages – zero, input costs – zero, advertising costs – zero, taxes – zero, profit margin – woohoo!!!

Wayne Huizenga made several fortunes consolidating businesses.  He first did it in garbage building Waste Management inc., he then did it in video rental building Blockbuster and then did it with Auto Nation.  Let’s take Huizenga’s template and consolidate the lemonade stand business . . . then we’ll do an IPO and be rich.

Location-Location-Location

     Today’s post is about that all important decision on the part of a retail business owner, where to hang the shingle.  It’s one that has such far reaching consequences and I’ve seen struggles that have resulted in making a poor decision. Location by itself isn’t the whole issue however. The location needs to fit within the overall approach of the business.

 

There are two basic options.  One is to locate in a high traffic space and rely on that traffic to develop into a customer base.  The second option is to choose a location that doesn’t deliver traffic; the retail business sets out to bring their own traffic and become a destination store.  Think of this dichotomy as opposite ends of a continuum with high rent at one end and high marketing costs at the other.

 

     Option one, high traffic locations must be chosen with care.  Is the traffic desirable?  If you are locating a craft store, do you want to be locate in a fashion mall?  The two aren’t mutually exclusive but they also aren’t complimentary.  The primary advantage of this option is that a well run retail business can get up and running more quickly if it captures the wallets of the people that make up the existing traffic.  The disadvantages are that the retail store is at the mercy of changes in traffic patterns and if the economy slows the rent remains high.  Another common mistake is assuming that by paying for the traffic, that nothing else needs to be done.  This issue will be addressed in future posts.

 

     Option two, becoming a destination and marketing to bring traffic to your business takes longer, and in some cases takes too long.  I have seen businesses fail, waiting for the business to come.  The classic in this regard is the business that the owner is passionate about but is started on a shoe string.  The owner chooses the cheapest space they can find, due to inexperience they don’t do a very good job of merchandising, make use of hand made signage and has no money left for marketing.

 

     One of my favorite examples of a business that is out of the way but very successful is the Salt Lick BBQ in Driftwood Texas.  In 2004 Driftwood had an estimated population of 21.  Over the years the population has never exceeded 0ne-hundred.  I’ve had the pleasure of dining here.  The Salt Lick has a seating capacity of 150 (keep in mind the population of the town) and on a Friday night, even with a reservation, and it took our group over an hour to get a table.  It was worth the wait.  Patrons wait in the garden.  This is a dry county, so the restaurant isn’t making customers wait just to sell alcohol.  The restaurant is so popular that they have parking lot attendants directing traffic.  The food is excellent and patrons can choose to eat “family style.”  The food is served in bowls, a bowl of potatoes, a bowl of beans, a platter of meat, and when one is emptied, staff bring another.  It’s a pleasant way to dine.

     You need to do some serious planning before you decide on your location.  Don’t decide on the cheapest space you can find unless you are prepared to do some serious work on delighting customers and great marketing.