Every business owner knows that customers are valuable, but it's best to know exactly how much value they bring during their company relationship. After understanding the value of your existing customers, it's easier to know how much to spend on adding new customers and growing your customer base. That's why you should know how to calculate and interpret the SaaS LTV metric.
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SaaS is on the rise, and for a good reason. It's built for scalability and increases a company's growth. However, regarding the nuances of SaaS, plenty of factors affect a business's success (or failure).
Customer lifetime value (LTV) is one of them!
Customer Lifetime Value (LTV) is used to manage business value and calculate acquisition costs, but what does that mean in practice? How do we calculate LTV for SaaS operations? Let's delve into these questions to find out in detail;
What is SaaS LTV?
CLTV is the aggregate worth to a user's company throughout their customer relationships.
SaaS LTV is defined as the total value of a customer over their lifecycle. The average total income produced by one customer for a business throughout the client's lifetime is known as customer lifetime value.
It considers recurring business, the duration of subscriptions, and other factors in addition to merely the revenue from a single sale. When discussing SaaS companies, a client's LTV increases when they spend more money with the business and remain customers for longer.
The customer's lifetime value in SaaS would be $500 * 12 = $6,000 if they use your SaaS product for $500 per month and stay with you for 12 months before switching to another product.
SaaS LTV reveals the value of the complete client relationship to your company. Since SaaS companies can only recoup their investment in obtaining new customers from a single transaction by the client, having a high LTV helps them remain profitable.
Of course, the goal of SaaS LTV is to maximize customer lifetime value because doing so will increase income.
Why is SaaS LTV Calculation Important?
LTV calculation SaaS is important for several reasons:
LTV gives insight into how much you should invest in each customer, which helps you better understand your customer base, improve customer retention, and helps in the growth of your business.
Knowing how much each customer brings in allows you to plan expenses and allocate budgets accordingly. This will help you avoid overspending on marketing campaigns or hiring unnecessary employees.
SaaS LTV can be used as a benchmark. It determines whether or not it's worth investing in certain customers who are likely to convert into paying customers due to their high value and commitment to your product/service.
Helping With Upgrade
A good LTV calculation in SaaS can help determine when to offer upgrades to your customers if you have an upgrade path in place.
Using LTV as a forecasting tool can help predict future SaaS revenues. How many customers are expected to purchase each month or quarter? It's easy to see how much revenue those new customers will bring in.
Better Campaign Building
This calculation allows you to build better campaigns based on what works best for your customers. For example, if you know that 70% of customers who have used your product for three months will upgrade, then you can create a campaign that targets those customers who have been using your product for 3 months or more and try to convince them to upgrade.
Customer lifetime value SaaS is significant, yet many businesses need to recognize it. Many marketers need help to fully utilize customer lifetime value, according to a survey from Criteo.
They list several difficulties, such as a lack of internal talent, the expense of monitoring SaaS Customer Lifetime Value (CLV), and problems with the metric's general complexity. Having trouble acquiring enough information about the customer to form a clear picture is another major problem.
In light of this, let's discuss how to calculate SaaS Customer Lifetime Value (CLV), including how we do it and how you can make monitoring simple.
What Metrics Do You Need for Lifetime Value Calculation in SaaS?
If you're looking for lifetime value calculation, then you'll need to know these SaaS metrics:
Average Purchase Frequency Rate
This is the average number of times a customer purchases from a company. Most companies use this metric as an indicator of customer loyalty. The higher frequency rate usually pictures a loyal customer.
Average Purchase Value
This is the average amount a customer spends each time they make a purchase. You can calculate it by dividing the total money spent by all customers in one year by the number of purchases made by those customers.
It is the total amount of money expected to be generated from a single customer over their entire relationship with your company, minus any costs associated with acquiring that customer. CLV includes both direct and indirect revenue from current customers, plus any future revenue they are expected to generate through referrals or repeat purchases.
Customer Acquisition Cost
Next, determine how much acquiring a customer will cost. This includes all marketing expenses and other costs associated with bringing new people into your business. For example, if you spend $1 million on Google AdWords and get 10000 new customers, then your CAC would be $100 per customer.
How to Calculate SaaS LTV?
Here's how to calculate SaaS LTV:
LTV = (Average Revenue Per Customer * Gross Margin %) / Revenue Churn Rate
This equation's variables are:
- Monthly Recurring Revenue (MRR) / Total Number of Accounts equals average revenue per customer.
- Total Revenue - Cost of Goods = Gross Margin
- Revenue Lost in a Specific Period - Upsells in that Specific Period = Revenue Lost in a Specific Period / Revenue at the Start of the Period.
This LTV formula SaaS shows gross profit rather than revenue. The LTV would be ($75 * 0.15) / 0.05 = $225 if the average revenue per customer was $75, the gross margin was 15%, and the revenue churn rate was 5%.
LTV = Average Revenue Per Customer * Customer Lifetime
The LTV is $20 * 6 months = $120 if a customer uses your SaaS product on average for $20 per month throughout their whole relationship with your company, which lasts 6 months.
LTV = Average Revenue Per Customer / Churn Rate
The number of subscribers who terminated their subscriptions during a given period is known as the churn rate. For instance, if you had 2000 members the year before and lost 100 out of the total, and no new customer is added during this period. In that case, the churn rate would be 5%.
The LTV is $50 / 0.05 = $1,000 if the average revenue per client is $50 and the churn rate is 5%.
The churn rate has an inverse relation with customer lifetime value.
Calculating SaaS LTV CAC
You can get your SaaS LTV CAC (customer acquisition cost) by adding up all of your sales and marketing costs over a specified period (including human capital costs) and dividing that total by the number of customers acquired during that period.
Customer Retention Strategies to Increase Lifetime Value in SaaS
So, how do you maximize LTV? What can you do to increase customer retention? It's more than just keeping your existing customers happy. Here are some strategies:
Know Who Your High-value Customers Are
First, you need to know which customers are more likely to churn than others. This will help you focus on improving your offerings and onboarding processes for those groups so that they stay longer and spend more money with you overall.
You can do this by using a predictive analytics tool that tells you which users have a low LTV so that you can focus on improving their experience and converting them into long-term customers.
Differentiate Your Messaging Based on Segmentations
Segmenting your audience allows you to tailor messaging based on what drives each segment's behaviors and attitudes toward your product. For example, if one segment has high churn rates but another has them low, then you need to identify why that is so. This way, you can target messaging accordingly.
Drive Value Every Day
Customer retention isn't something that happens at one point in time — it's an ongoing process that requires constant attention from everyone involved in the organization. Make sure everyone knows what's important for each customer lifecycle stage. Ensure they take action daily to provide value for those stages and the entire customer lifecycle.
Create a Seamless Experience
Your product should be easy to use and understandable for people. Customers shouldn't have to spend time learning how to use your product if they're already familiar with other similar tools or platforms — but if they do need training, make sure it's available on demand (and not buried behind layers of menus).
Drive Product Discovery With Personalized Ads
If a customer doesn't know what they want, they won't buy anything — which means they won't stick around long enough for you to sell them something else! So a personalized advertising campaign can help drive traffic back to your site and show them products that might interest them based on their previous purchases or browsing history.
The bottom line here is that to calculate and interpret LTV effectively, you need a sample or cohort, your CAC, and how much value a customer brings to your company.
Utilize the SaaS consulting services offered by Apptension to get help with SaaS metrics tracking and achieve success in the market.