Lifetime Value
The total gross profit a customer produces before leaving. It is the number that tells you what acquiring one is worth, and it is governed more by retention than by price.
In practice
$200 a month, seventy percent margin, three percent monthly churn gives about $4,667 of gross profit per customer — the ceiling on what acquiring one can sensibly cost.
The common mistake
Quoting one company-wide LTV. Averaging customers who stay four years with customers who leave in six weeks produces a number that describes nobody and justifies overspending on the second group.
Lifetime value is the total gross profit you expect from a customer across the whole relationship. It sets the ceiling on what you can afford to spend acquiring one.
The calculation
The workable version: average monthly revenue per customer, multiplied by gross margin, divided by monthly churn.
A customer paying $200 a month at seventy percent gross margin, with three percent monthly churn, is worth $200 × 0.7 ÷ 0.03, or about $4,667.
Note that gross margin does the heavy lifting. Revenue is not value; the money left after delivering the service is. A business that charges well and delivers expensively has a much lower lifetime value than its price list suggests.
The trap in the number
Lifetime value is a forecast dressed as a measurement. Dividing by churn assumes your current churn rate holds for the entire life of every customer, which nobody can know, and the arithmetic is most flattering exactly when churn is low and least tested.
At one percent monthly churn, the formula assumes an average customer life of a hundred months. If the business is eighteen months old, that is a projection about years you have not yet had, resting on data you do not yet own.
Two disciplines help. Cap the horizon — calculate over twenty-four or thirty-six months and treat anything beyond as upside. And segment, because a single average blends the customers who stay for years with the ones who leave in month two, and those two groups need different decisions, not one number.
What it is for
The point is to decide what a customer is worth buying. If lifetime value is $4,667, spending $1,500 to acquire one is straightforward — provided you can survive the wait. See customer acquisition cost and recurring revenue.
Concept web
Open the full webQuestions
How do you calculate lifetime value?
Multiply average revenue per customer by gross margin, then divide by the churn rate for the same period. This gives expected gross profit across the relationship.
Why use gross margin instead of revenue in LTV?
Because revenue you spend delivering the service is not available for anything else. Only the margin can repay acquisition costs and fund the business.
What is wrong with LTV calculations?
They project current churn across the entire customer life, which assumes a rate that has not been tested over that period. Capping the horizon at two or three years gives a number you can defend.