The customers who come back are undoubtedly more profitable than the one’s who don’t. So, why don’t we focus more of our search marketing efforts on obtaining lifetime customers? As competition in the search marketing industry increases, it’s important to be able to focus PPC on the searcher that doesn’t just convert once.
Knowing the lifetime value of a customer is essential to a business in it for the long haul.
CPA 101: Prerequisite to LTV 203
CPA for Lead Generation
Conceptualizing your CPA isn’t hard. You simply take the amount you’ve spent on your PPC and divide that by the amount of conversions you have obtained from PPC.
Perhaps it looks like this for a single month: $1000 spent ÷ 100 leads = $10 spent per lead
Now you’ll ask your sales team how many of these leads actually become sales. Perhaps they say 10%. That’s about 1 in 10 of your conversions producing a sale.
Now we can say that the cost of gaining a customer is about ten times the cost of gaining a conversion, or $100. Multiplying this by however many customers you need per month will give you a starting number for your PPC budget, e.g., you need 25 customers from PPC so your budget for PPC should be around $2500 per month.
Now we’ve got the average cost of obtaining a customer. In this case, it’s $100.
The issue with this is it’s short term and it assumes that every customer is equal. Customers come in all shapes, sizes, spending patterns, and levels of loyalty. We’ve got to keep in mind that this initial cost per acquisition calculation isn’t looking at what these customers are going to do in the future, it only considers the immediate results of their single conversion.
ROAS for E-commerce
If you’re on the E-commerce side of things, you’ll know from your tracking how much each customer’s unique transaction is worth. It doesn’t make as much sense to call this a cost per acquisition as a conversion on your E-commerce site is actually a sale. A good way of focusing your PPC strategy is considering your return on ad spend, or ROAS.
Using your tracking data for the past month, you can get a general idea of your ROAS, or your money made ÷ money spent, e.g., you spend $2500 and generate $3000 revenue in a 30 day cycle. Your ROAS is $1.2 for every $1 spent. Wait a second, that’s not enough to make you money after other costs are factored in.
Wrong, you have to remember that the revenue here is only from the first purchase these customers make. These customers are most likely not going to be browsing advertisements for your products the next time round. The second, third, fourth and however many more purchases are not being factored into your initial ROAS calculation. Once you start considering purchases made beyond the monthly cycle, you can see how only considering ROAS on a month to month basis can make your PPC look less successful than it actually is.
In the same vein as lead generation advertising, issues may arise in E-commerce strategies when only the initial sale is considered.
LTV 203: Getting past shortsightedness in CPA and ROAS
You’ve now passed CPA (and ROAS) 101, let’s build our knowledge further.
Thinking about lifetime value, or LTV, requires a shift from a month to month value based ideology to a long term way of seeing things. The lifetime value cycle of an E-commerce customer is typically 1 year. Lead generation or subscription based services might have longer cycles.
Most big advertisers are aware that only using a monthly target CPA is shortsighted and limits PPC success. Being able to harness the valuable information LTV supplies will allow your business to make informed and intelligent decisions on what your target CPA should be and how your account should divide its focus.
LTV let’s you ask if you’re acquiring the best kinds of customers, what marketing channels these customers come from, and whether you’re doing all you can to retain these customers.
Thinking for the future
What if a campaign is converting within an extremely low target CPA, but most of these customers barely return, or spend very little when they do? What if another campaign with a higher CPA is bringing in customers that spend more and come back more? Is it worth it to focus on the fly by night customers and the lower CPA, or to pay more per acquisition and obtain more valuable and loyal customers?
Consider the possibility that a successful sale might lead to more sales in the future, that a customer might return to your business. These reoccurring instances of business from the same lead or visitor on your website start to illuminate the fact that your month to month CPA isn’t the end-all be-all to focus on.
If you break even on the initial sale, you make a profit when the customer comes back. If you’re looking to make a profit on the initial sale, you might be bidding too low to accommodate for your lower target ROAS, e.g., you want to make $1 on wallets, but it’s costing you the price of the wallet to get the conversion, so you lower the amount you spend on wallet advertising, reducing its exposure and position on the results page.
You’re desperately trying to reach your low target ROAS, but as you reduce what you spend on your PPC you see your conversions from said PPC drop. You begin to think PPC isn’t worth the bother, but you might want to first reconsider your target ROAS and whether you’re evaluating single month or long term results.
Go to the LTV light
Not all customers are equal. Some will come back, some won’t. LTV is a long term way of looking at which customers are worth the most, and using this information to readjust your PPC strategy across Google AdWords, Bing Ads, and other search marketing mediums can result in you getting the most valuable customers in the most cost effective ways.
You own a business selling talking parrots and the necessary merchandise required for their joyous, verbose lives. Putting your LTV conscientious mindset into action, you’ve gathered data on who and where people are converting. You’ve recognized that the campaign promoting cockatoos has a high CPA of $15. This is a lot more than the $5 CPA of the campaign promoting parakeets.
It looks like you should focus more of your budget on the parakeet buyers, on a first glance they seem to convert for less. However, using historical data from your sales team, you realize that the cockatoo buyers visit your store more regularly and spend more per visit.
A year of sales data on the two different types of customers looks like:
The cockatoo buyers give a profit of $65, while the parakeet people give you a profit of $40.
You now take the monthly CPA of either customer and subtract it from the gross profit. Cockatoo lovers earn you $50 a year, while parakeet lovers only earn you $35.
By just using a one year cycle, you can see how focusing on month to month CPA might lose the parrot shop money.
Perhaps your parrot shop has been in business for a long time and you know what you are doing. You’ve had tracking set up for your customers for a while and you’ve also been monitoring trends in their spending over time. Taking this data you can see how your best leads are even more valuable:
Cockatoo lovers net twice as much money in the long run as parakeet lovers. If you had based your analysis solely on the monthly CPA of the two different campaigns, you’d probably have budgeted more money for the parakeet campaign and less for the cockatoo campaign. Using LTV conscious calculations shows you that the $15 CPA for cockatoos might not be such a bad deal. Heck, it might even be worth it to bump up to a higher targeted CPA in the cockatoo campaign so as to obtain more quality customers.
Lifetime Value Resources
In a great article by Avinash Kaushik, the minute details of effective LTV calculations are inspected with the help of his friend David Hughes. Check out the article for more great insight on the mechanics of LTV
Included within the article is a handy Detailed Lifetime Value Model that you can work with yourself.
LTV Long and Prosper!
From Google AdWords to Bing Ads, knowledge of the lifetime value of your customer can only aid in the effective management and optimization of your PPC account. Strong communication between your marketing, sales, and finance teams will allow your business to determine accurate LTVs. With accurate LTVs you can confidently set target CPAs, forecast your PPC, and optimize for the most valuable kinds of conversions.
If you’re still unsure about LTV, or want an expert’s opinion on how your LTV should be influencing your PPC, contact the team at Vantage for a free PPC consultation.