Guest post by Alex Walz (Apptentive).
The difference between apps that sell for millions of dollars and apps that never see a dime can often be narrowed down to a single point: How well their developers and marketers understand the value of a customer.
Customer lifetime value (CLTV) is at once both one of the most powerful metrics in the mobile app publisher’s toolbox and one of the most enigmatic.
CLTV can serve many purposes: an indicator of your health’s success, a reminder of the power of customer loyalty, and a tool for forecasting growth.
But at its simplest, customer lifetime value is what drives (or what should drive) your mobile marketing budget. It tells you how much each new customer is worth – and how much you can pay to acquire that customer.
In this post, I’ll breakdown mobile customer lifetime value into the much-more-tangible parts that make up this broad metric and provide tips and best practices for calculating each element. And ultimately, we’ll bring everything back together in the form of a very meaningful metric to be used against the cost of customer acquisition (CAC) as a way to gauge the return on your marketing investment.
(A quick note: This post is concerned with predictive or average CLTV. Actualized CLTV data for the net contributions of each unique customer is a different matter altogether, and one outside the scope of this post.)
The 3 Drivers of Customer Lifetime Value
Taking a note from the blog of Lloyd Melnick, a senior director on the team behind Zynga’s iPad and Facebook social casion app, LTV can be broken down into three categories of variables:
- Monetization – How much customers contribute to your mobile revenue (in the form of ad impressions, subscriptions, or in-app transactions).
- Retention – The level of engagement a customer has with your app, looking particularly at the length of the average customer lifecycle.
- Virality – The sum value of additional users a customer will refer to your app.
At its simplest, CLTV thus becomes a function of these three variables:
While there are several different ways of breaking down this function (and indeed, each business defines Monetization, Retention, and Virality differently), I’d recommend using the following model as a starting point for calculating a customer’s lifetime value:
Of course, adding more variables to a formula doesn’t make it any simpler to comprehend, so we’ll further break down each component in the remainder of this post.
For now, note that Monetization is represented by ARPU (average revenue per user), Retention is represented by the inverse of your churn rate (used as a proxy for the predicted amount of time a customer will be actively engaged with your app), and Virality is represented by the sum value of new users a customer refers to your app.
Also note that the Virality element is left in parentheses as an optional part of the equation as (a) few mobile app marketers have the means of tracking this information, and (b) its calculation can get a little messy.
1. Measuring Monetization
The first step to calculating mobile customer LTV is to figure out how revenue the average customer generates in a given timeframe. This figure is commonly denoted as average revenue per user, or ARPU.
ARPU is calculated by the sum amount of mobile revenue generated in a specific time period divided by the number of users actively engaging with your app in that period:
ARPU is typically reported on a per-month basis, but many marketers have taken to reporting it on a per-week or per-day basis, given that the average app only retains 25% of its customers after one month.
The definition of an ‘active’ user is also open to interpretation as many marketers segment their customers to create a more meaningful metric. For example, raising the bar on engagement and retention by only looking at daily active users (ARPDAU) or filtering out unpaid users in the case of a freemium app by only looking at paying users (ARPPU).
See where things start getting tricky? For the sake of comparing LTV to the cost of customer acquisition, I’d suggest being a little looser with your retention and engagement criteria and consider all customers who launch your app within your designated time frame – ideally, your monthly active users (MAUs).
2. Measuring Retention
The next step in calculating customer LTV is to predict the lifespan of an average customer: How low long are customers retained, or engaged with your app?
To measure this number, you need to first know your churn rate: What percent of customers stop using your app within your given timeframe?
Its calculation is, therefore, the number of lost customers in that time period divided by the total number of customers going into that period:
The time period, here, should be the same as the one used to measure ARPU.
Once you have calculated churn, you can take its inverse (1/churn) to find the predicted amount of time a customer will spend engaged with your app. The units here are the same your time period. So, a monthly churn rate of 50% means that the predicted lifespan of a customer is two months.
3. Measuring Virality
I’ll just gloss over this section as Virality is typically removed from the LTV equation due to the difficulty of tracking and measuring referrals, as well as the challenge of averaging out referrals if its not a significant part of your growth.
For marketers that do have access to these data points, the Virality part of our equation would identify the average number of referrals a customer brings in and then multiplying it by the individual revenue contribution [ARPU x (1/Churn)] of an average user.
For anyone looking to get serious about referral measurement, I’d recommend checking out Branch Metrics. For the rest of us, Virality is something that should be in the back of our minds, but not a necessary part of the equation.
Once you’ve calculated ARPU and churn, you’re ready to calculate predicted customer lifetime value. Now, it’s just a matter of bringing it all together.
For example’s sake, let’s say your average user generates $1.35 in revenue every month and you have a monthly churn rate of 60%. Your customers are, no doubt, evangelizing your app in the form of ratings, reviews, and word-of-mouth, but with an accurate calculation, let’s simply set referral value to 0.
Plug in the numbers, and your formula now looks like this:
That means your average customer has a predicted lifetime value of $2.25.
Returning to why we embarked on this epic math journey in the first place, you’re now able to decipher whether or not it makes sense to invest in app install ads and other customer acquisition campaigns. Just follow this one rule: As long as the average customer lifetime value (LTV) exceeds the cost of customer acquisition (CAC), your marketing expenditures will have a positive return on investment.
In the world of mobile apps, customer acquisition almost always comes down to the cost per install (CPI), calculated by dividing the amount spent on advertising by the
If it costs less to acquire one customer (one install) then the amount of revenue that customer will likely generate, then advertise away.
If not (as is all too commonly the case, particularly in the category of mobile games), you’ll need to find a way to boost retention, increase ARPU, or grow referrals before it makes economic sense to invest in app install ads.
Success in the app business often comes down to simply knowing your numbers – and a firm grasp on customer lifetime value is what will ultimately differentiate your app between the 99.99% of apps not considered financially successful.
Hopefully this post has helped transform the enigmatic CLTV metric into something a little more tangible. The exact measurements remain unique to each business and each app, but at its core, LTV comes down to knowing revenue, retention, and the number of customers actively using your app.
Once you know these metrics, you’re able to not only guide your advertising dollars but to dissect the equation and focus on moving the needle on your mobile revenue by boosting one of LTV’s three components: ARPU, Retention, or Referrals.
About the author:
Alex Walz heads up content marketing at Apptentive, the leading enterprise platform for earning mobile customer communications. He loves to mentor young entrepreneurs and frequently writes on the subjects of mobile marketing and customer experience. Connect with him on LinkedIn or Twitter.
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