Most companies understand the importance of marketing to drive growth. However, determining the right marketing budget can be tricky. Spending too little restricts growth potential. But overspending can lead to negative returns on marketing investments.
This is where customer lifetime value (LTV) comes in. By projecting the revenue a customer will generate over their lifetime, LTV provides guidance for marketing budget decisions. This article explains how to set and execute a marketing budget leveraging customer LTV analysis.
Calculating Customer Lifetime Value
Let’s walk through a simple example. Say a customer generate on average $18,750 per year in fees with your company. You also expect average customer tenure to be 3 years. To determine per customer LTV, you’d calculate:
Year 1 spend: $18,750
Year 2 spend: $18,750 * 1.06 (6% annual growth) = $19,875
Year 3 spend: $19,875 * 1.06 = $21,067
Total lifetime value: $18,750 + $19,875 + $21,067 = $59,692
This provides a benchmark for how much lifetime revenue can be expected per customer acquired.
Setting a Marketing Budget Based on LTV
When setting a marketing budget, you want your customer acquisition costs to be significantly lower than the lifetime value. A good rule of thumb is 3-4x lower.
So with a $59,692 LTV, your cost to acquire a customer should ideally be $14,923-$19,897. This ensures acquiring the customer will be profitable over their lifetime.
Now once you’ve acquired a customer for say $36,000, you’re left with $23,692 “profit” based on the $59,692 LTV. A portion of this, such as 30%, can be reinvested into other marketing and sales growth initiatives.
In this example, that would mean putting $6,000 of the $23,692 back into marketing to further scale up. Tying your budget to LTV in this way allows efficiently ramping up marketing spend.
Executing the Marketing Plan
When putting your marketing budget into action, focus on the following:
- Develop campaigns optimized for ROI based on your LTV targets. Continuously test and improve marketing efficiencies.
- Closely track acquisition costs versus LTV benchmarks. Adapt budgets dynamically based on performance.
- Expand channels and campaigns that consistently deliver strong returns. Phase out lower performing programs over time.
- Reinvest a share of your marketing return into growth initiatives, not just profit. Compounding growth is key.
LTV as Framework for Setting Budget
Setting marketing budgets based on customer lifetime value aligns your spending with the revenue customers deliver over time. This enables scaling up marketing efficiently, by tying spend to the value derived from customers acquired.
While this article focused on marketing, the concept of basing budgets on LTV applies more broadly. For example, reinvesting returns into growth can involve expanding sales teams, development programs, or new product initiatives.
The key is linking spending decisions to the customer’s lifetime value. This helps fuel sustainable growth over the long-term.