Customer Lifetime Value: Not All Customers Are Created Equal
Welcome back to the fourth installment in our New App Marketing Metrics series! This time, we’re discussing a metric we’ve hit on a few times in previous installments: Customer Lifetime Value (LTV).
For years, this powerful metric has been overshadowed by its simplified brother, Average Revenue Per User (ARPU). But just as installs fail to capture the retention piece and just as CPI data fails to account for relative costs, the ARPU metric that so many app marketers have come to rely on is constrained by its own simplicity.
Over the remainder of 2016, we expect to see publishers getting more granular with their revenue estimations and attributions and being able to operationalize non-monetary elements of customer loyalty to better guide their financial projections.
But, first, let’s take a look at why ARPU needs to be retired in favor of the more robust LTV.
Retiring Average Revenue Per User (ARPU): Not all customers are created equal
Just as its name implies, ARPU spreads your entire app revenue (from ads, downloads, in-app transactions, or whatever revenue model your app employs) over your entire active customer base. The figure is usually bound by a specific time period (typically one month), and can be calculated as follows:
This app revenue metric is commonly used to guide financial projections, revealing insights into:
- How much an active customer is worth (ARPU)
- How many active customers your app needs to break even (Expenses ÷ ARPU)
- How much you can spend to acquire a customer (Anything less than ARPU)
But, while ARPU does a decent job at addressing the above questions, its insights are limited. The metric is subject to however you define ‘active’ and the fact that some of your revenue, particularly in the form of ad impressions, will likely have been generated by customers who fall outside of this bucket.
The metric further relies on the assumptions that all active customers generate the same amount of revenue and that all active customers will continue to use your app for the timeframe you’ve chosen for the calculation, typically one month. In reality, as few as 0.15% of your customers will generate half of your total app revenue and fewer than 40% of customers will use your app for a period lasting longer than 30 days.
In other words, publishers relying on ARPU risk misallocating their revenues by forming projections on the assumption that all active customers will generate the same amount of revenue as a customer who uses your app for an entire month.
Enter Customer Lifetime Value
By no means is ARPU a bad metric. It is, however, an overly simplified metric, and when you’re dealing with something as precise as financial planning, simple can be dangerous.
For reliable projections, you need a more all-encompassing metric: Customer Lifetime Value (LTV).
Customer lifetime value overcomes many of the limitations of ARPU by incorporating everything you know about your customers to calculate a more precise metric of value. Whereas ARPU is plagued by an assumption of a common (one-month) use period, LTV builds retention right into the calculation to determine the true length of a customer relationship. The resulting formula typically takes the form of:
We won’t get too into the math here (if you’re interested, we’ve broken down this math in a free whitepaper), but from this formula, we can see that LTV has three components:
- Monetization, frequently expressed as ARPU: The dollar amount that a customer contributes to your bottom line over a given timeframe;
- Retention, frequently expressed as 1 ÷ Churn: The level of engagement and loyalty customers exhibit for your app, expressed in the length of the average use period; and,
- Virality, or referral value: The sum value of additional installs that a customer will send your way
By adding the elements of retention and virality to the more traditional ARPU metric, LTV provides a more holistic view of the worth of a customer relationship. It shows the power of retention marketing and the benefit of making an app that customers not only love but love to share.
Additionally, the LTV metric allows for meaningful segmentation or even reporting on the level of the individual customer. With the right analytics and customer insights, app publishers can get as granular as they like when it comes to deciphering customer value, exploring questions including:
- What levers do I have for increasing revenue?
- Is it more profitable to go after the monetization, retention, or virality angle?
- Are customers who discovered my app organically more valuable than those acquired by paid means?
- What role do referrals play in my app’s success?
- How much does a lost customer cost?
Like most of the metrics we’ve proposed for app publishers in 2016, LTV isn’t a radically different concept from ARPU. It still provides roughly the same information and can be similarly used to guide your decisions and ad dollars. It is, however, an improvement upon ARPU. It fills in the information gaps that ARPU skims over with assumptions, and it recognizes the importance of less quantifiable elements, such as retention and referrals.
Metrics Worthy of 2016
So far, we’ve looked at four metrics traditionally overlooked by mobile app marketers: App Uninstalls, Return on Ad Spend, Message Quality, and Customer Lifetime Value. These four metrics stand in direct response to the slew of challenges 2015 threw at us—from a revamped search algorithm to record-high CPIs to customers tuning out annoying brand communication—and provide us with a better indication of our app’s health and sustainability.
To update your metrics toolkit for 2016, download our complete guide, The New App Marketing Metrics. Inside, you’ll find all six of our ‘new’ metrics and exclusive tips on using them to 1-up your competition.
Thanks, and see you next week with another metric!
> Update: Part V of this series is now available! Continue on for our fifth ‘new’ app marketing metric: One-Star App Reviews.