This guest post was provided by our friends at Atlas, the recurring revenues growth consultancy.
Understanding your profit on a one-off sale is simple – price paid minus marketing and manufacturing costs. This book costs £30, I spent £7 on marketing and it cost £10 to print and deliver – my profit is £13, and I have that profit as soon as the sale completes.
A subscription isn’t like that – customers sign up to receive something regularly, a magazine, streaming service, or access to online content. Instead of paying each time they access, customers pay on a set schedule, and the content gets delivered automatically. It’s a way for customers to keep accessing what they want without reordering each time. An ongoing relationship. Subscription marketing spend isn’t about acquiring a single order, it’s trying to build a long term relationship with customers. That demands an entirely different calculation.
Lifetime Value profit is the total profit a business expects to make from a customer over the entire time they stay a customer – and it’s the key to an effective subscription business.
If someone keeps subscribing for years, a subscription business needs to consider how much profit it will make from that person in total—not just from that first purchase. LTV helps them understand the long-term value of keeping each customer.
If your average customer will keep subscribing for three years, and you make £150 of profit over those three years – even though their first contract might be a £1 trial – it’s worth spending significantly to acquire them.
> To read next: The retention-acquisition connection
Lifetime Value metrics facilitate brilliant decision making
This article will help with the groundwork to embed LTV profit into your business decision-making. It’s relevant to everyone across your business, from a junior marketer who wants to make decisions on what offer, channel or product to promote, all the way up to the CFO. LTV answers the question “for every £1 I spend on marketing, how much will I get back over how long?” and having a clear timeline to return on investment will revolutionise how your business functions.
LTV isn’t just for publishers who expect a long time return though; understanding your metrics for profitability is as relevant – if not more important – when your target is to drive profit within the first year or less.
Where to start with building a LTV model
A simple illustrative model to demonstrate and predict return like this one is the best place to start your LTV journey. The diagram breaks down all of the inputs in detail and demonstrates the key calculations, but at the highest level, you need the following standard KPIs:
- Cost per Acquisition (CPA) – the marketing cost to acquire a new order
- Retention metrics for an average new order – that might include Trial Take Through rates (TTR) and ongoing renewal or churn rates, at individual contract level, and ideally by tenure
- Pricing – what you’ll be charging the customer over time including any price increases
- Cost to Serve – that might be management fees, payment processing costs, the cost of printing and mailing copies if there’s a print element to the package you’re selling. Essentially, the costs associated with fulfilling what you’ve sold.
- Ongoing marketing costs – onboarding, renewal costs if you have them – for the accountants amongst us, discretionary costs
Most importantly: Make it simple, make it transparent and make sure the whole business understands it. Sure you can (and probably will) end up building something complex, perhaps even driven by live data. Resist the urge until the metric is clearly understood by everyone in your team. It’s tempting to start with something super detailed which needs an analyst to run, but great LTV work I’ve seen can almost be done on the back of an envelope.
If you’re getting resistance to introducing LTV, prove it on an existing cohort, demonstrate how it matches your model and how much those subscribers have contributed to profit over time. That will add weight to your argument.
LTV – ready to take flight
Running a recurring revenue model is like flying a plane – you’re the pilot and before you take off, you sit in the cockpit to monitor and tweak thousands of different dials – price, take through rate, renewals, CPA, engagement, open rates, brand search, NPS scores.
As a subs geek, it’s a joy, understanding how multiple changes affect results elsewhere – but at board level, there’s not always time (or desire!) to go through that much information. Your board don’t want to be adjusting each dial or switch one by one and waiting to see what happens. They want the subs equivalent of a seatback screen showing the journey – where you’ve come from, where you’re going and where you are right now. That’s what LTV delivers.
So you’ve built your LTV model, you’ve convinced the board it’s a great metric to use – what next?
If you don’t know what your timeline for Return on Investment is, agree it at board level. That will depend on your brand’s top level objectives.
If your primary objective is volume growth, a longer term window for return on investment (ROI) will support and justify higher marketing spend.
If your primary objective is revenue and/or profit growth, that will demand a shorter term window for your ROI .
Subscription success demands patience, though. Understanding LTV will demonstrate effectively that a 6m ROI timeline will limit your ambitions! Many publishers in growth are looking at up to 3 or even 5 year ROIs, whereas smaller publishers or those prioritising profit tend to look at in-year goals. Allow for the cashflow implications of that longer term ROI, though – having a finance team who understand LTV will help to faciliate this.
Ultimately, great use of an LTV model – as the following examples will show – is the perfect mix of art and science. The maths demonstrates technical feasibility, but your art – a marketer’s deep knowledge of your brand, your audience and marketing performance needs to be overlaid onto calculations – it’s a reality check. As order volumes increase, so does the incremental CPA – look at the model outputs and challenge them using your marketing understanding.
The same goes with pricing: a higher price drives LTV profit and might look great in your model – and even justify a higher CPA at acquisition. Beware – don’t be greedy. If you’ve not optimised the offer to match long term customer value perceptions, will your subscribers carry on paying you? Just because the maths works, will the customers align?
Practical examples using LTV to make great marketing decisions.
What CPA should I be targeting?
Are gift incentives the right way forwards? Expensive or cheaper – knowing the impact on LTVs can help to make great decisions that support your brand goals
There’s ongoing discussion around optimal payment terms, particularly monthly vs annual. Are monthly payments the right choice, allowing customers a low and accessible price point, or is pushing a longer term annual price the right approach? There’s no perfect answer to this question. Your answer might result in different payment terms for different customer cohorts -perhaps your lapsed subscribers might not need a trial and would be attracted to a longer term commitment with a discount rather than a monthly offer. The right choice will be based on modelling from your brand performance and business objectives – another question effectively resolved through LTV calculations.
Five key tips for introducing LTV to your business:
- Take everyone in the business with you as you use LTV metrics, not just your subs team. Demonstrate how your model works, and prove it with historical data. Make sure the whole business understands the model and can use it, from your most junior marketer to your CFO.
- Know your timeline to ROI – subs success takes time. Defining your timelines will quantify the opportunity for your brand and pinpoint the right CPAs to target for optimum return.
- Marketing planning with an LTV model is incredibly powerful. Is a campaign feasible; what spend should be allocated, what offers should be used, how will different price points play out in the long term.
- Do your LTV calculations, then overlay your marketing experience. The real power is LTV combined with your understanding of marketing channels and brand performance. If a model says you would need to uplift response 40% to justify investment – is that reasonable?
- Subscription success is about building long term relationships – if LTV drops, what might be influencing it? Monitor the key KPIs – retention metrics, CPA and pricing, adjust LTV models regularly to reflect reality, and use the key levers to improve performance performance. Ultimately, make you’re continuing to deliver what your customers value.
Atlas is the recurring revenues growth consultancy, find out more about our work on our website!
