I always ask new customers this question, especially when I do Google Pay Per Click advertising and they rarely have an answer. Discover how Britain’s best brands answer this question.
The simple answer is you should pay no more than the customer is worth!
What’s a customer worth?
If your average customer value is £100, you should pay no more than £100 (and ideally a lot less). But how much is a customer worth? Well that’s not so easy, but let’s consider how you might go about answering the question.
First – identify your Customer Lifetime Value (CLTV)
At some point your customer will no longer be your customer. The reasons will vary but the customer may:-
- have moved to another area / country
- no longer have a need e.g. a toddler who no longer wears nappies
- have decided to buy from an alternative supplier because of price, quality, service, new competition, or they just wanted a change
- have died
This requires the business to have a definition of a customer. The definition I use is – a customer is someone:-
- who has bought a product or service from you
- and is expected to buy again from you in the future
If you know the point at which a customer became a customer and the point when they ended being a customer you can determine the Customer Life Cycle (CLC). The CLC will vary depending on the product or service. For some it could be long and it’s said that on average people are more likely to have a longer relationship with their bank than with their spouse.
Alternatively, it may be short and could be measured in weeks. Many years ago I worked for a company called General Foods who manufactured Maxwell House coffee and Birds Desserts. In the late 70’s General Foods launched two new confectionary products called Space Dust & Pop Rocks. They were flavoured sugary products containing carbon dioxide that ‘exploded’ in the mouth. The product was rolled out across the country in one TV region at a time. Initially the demand for the fad product was huge, but ‘fizzled’ out a few months later when it was time to move on to another TV region. In this case the CLC could be measured in weeks or months.
What about new products?
If you are launching a new product or service it may be difficult to determine your CLC. Let’s assume that the CLC is two years. You will not be able to determine this until two years after launch. A good way of determining when customers are no longer customers is to look for defected best customers i.e. best customers who haven’t purchased or visited for a significant time. If best customers used to purchase monthly but haven’t bought for 6 months then it’s reasonable to assume they are no longer a customer.
Second – Calculate your Customer Lifetime Value (CLTV)
If the average CLC is 3 years and the customer makes 20 purchases over this period with an average value per unit of £15, then the CLTV = £300 and this sets the maximum amount you should be prepared to pay to acquire a new customer.
It’s important to include the value of all products or services purchased and also to take into account referrals. If on average, each customer is worth £300 and each customer introduces 1 new customer than the maximum target acquisition cost would double to £600.
Remember that this is the maximum target acquisition cost and if you go above this figure you will lose money on each additional customer. It does not mean that you have to pay the maximum cost but it sets the ceiling. I am currently running Google Adword campaigns for clients and attracting targeted visitors to their website from as little as 4p a prospect. So if your average customer value was £300 and you could acquire customers for only £3, you should be very happy!