Column: Old School DRTV vs. New School DRTV: Understand Lifetime Value

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In my first article in DRTV Newsweekly, I suggested that the DRTV industry has dramatically changed. I outlined six critical factors that you must plan for if you're going to crack the code and be successful in this new DRTV Internet continuum. Last time, I covered understanding your sales model.

Today I'll address the second key point: understanding lifetime value.

I know, you're thinking, what a boring topic, and even if you're a veteran direct marketing manager that truly appreciates the important value of lifetime modeling, you still have to convince others within your organization that it's worth using models to drive your business. The bottom line is, that in a fragmented media world with proliferating touch-points, and easily distracted customers, a lifetime value (LTV) model is absolutely critical to recognizing revenue opportunities.

What's new and exciting about LTV that should catch everyone's attention is that the lifecycle is shortened by the ability to track and read results within days, even hours. What used to take months now takes a fraction of the time. Thus, you can make decisions based on LTV much faster than ever before.

If you're new to LTV modeling and you're ready to leverage benefits, let's get started. Basically, there are two ways to assess LTV measurement. One is an absolute calculation; the other is a relative calculation. A relative LTV is the most valuable and will need to be evaluated in the context of what I call the customer's "BehaviorCycle." To do this, you don't have to wait years. You just need to understand a customer's behavior, and how it changes overtime. You will need to keep a quality database and meticulously track the behavior of a good customer into the future.

Before we get to modeling, keep in mind that simple common sense can take you a long way. For example, let's say you air a TV commercial on two different networks. You then examine the responders to your Web site a month later. You quickly assess that one network drives lots of visitors and repeat buyers, while the other network drives less. Statistically, it is accepted that "repetitive" behavior is an indicator of a higher LTV. In this example, you can easily spend more money on the better producing network knowing that these customers represent a higher value and will generate a superior ROI over the long-term

In terms of modeling, you need to start with a net profit analysis and then we can build a quick LTV model.

Average Sale Price

$ 50.00

100%

Cost of Goods Sold

$ 12.50

25.0%

Gross Margin

$ 37.50

75.0%

Credit Card Charges

$ 0.80

1.6%

Operational Charges

$ 5.00

10.0%

S&H Costs

$ 4.00

8.0%

Telemarketing

$ 0.80

1.6%

Returns

$ 2.00

4.0%

Media Cost

$ 25.00

50.0%

Net Profit

$ 3.90

7.8%

Using this data, let's assume behavior has demonstrated that the average customer makes purchases for 3 years, and then ceases buying for at least one year. Therefore, we can state that the LTV for the average customer is 3 years. And, over 3 years, the average customer purchases 10 times.

This equates to:

10 x $3.90 Profit per Unit = $39 LTV of the average customer

The average customer also refers 2 new customers.  Therefore, the maximum acquisition cost of a new customer in this model should be 3 customers x $39.00 = $117 to breakeven.  Keep in mind, that aggregated total of all your customer LTV values must equal your profits. Now, once you evaluate your customer's LTV, you now need to generate as a high an ROI per customer as you can by producing relevant marketing and advertising programs. One of the most important factors is "recency". Basically, this is the most powerful indicator of how customers will respond and how high their LTV will be. Simply stated, the more recently a customer demonstrates a purchasing behavior, the more likely they will replicate the behavior and buy again.

Lastly, the Internet is a dynamic communications channel that provides an incredible opportunity to accumulate transactional data unlike any other medium in history. So keep tracking, analyzing and modeling. My next article will explore understanding how DRTV affects other channels in a multi-channel environment. Keep reading.

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