In the case of banks, we can take one example in respect of credit card customers. Suppose on an average, one customer purchase items worth Rs.2000 per month and maintaining unpaid balance of Rs.500 every month.
|Merchant processing fees (2.5% x Rs.2,000)||Rs. 50.00|
|Interest on unpaid balance at the end of month: (30% * Rs.500 / 12)||12.50|
|Total Monthly revenue:||62.50|
|Annualized monthly revenue||750.00|
|Annual fee (First year waival)||99.00|
|Total Annual revenue||849.00|
|Annual maintenance, processing, mailing costs||400.00|
|Year 1||Year 2||Year 3|
|Revenue per customer||750||849||849|
|Profit per customer||245||424||424|
|Net present value profit||24500000||30126316||23248246|
|Cumulative NPV profit||24500000||54626316||77874562|
|Life Time Value(each)||245.00||546.26||778.75|
|(calculated on original 100000 customers)|
In a bank, due to business campaign for new credit cards, one lakh customers are acquired with acquisition cost of Rs.80 per customer. All these customers are not static. They tend to drift away. A year later, only 75% of them are still using their card. Their retention rate is 75%. Of those who remain, the retention rate increases to 80% in Year 2 and 85% in Year 3. Some of these customers are attracted by marketing efforts of Rs.25 per customer per year to become advocates and get their relatives and friends to take out the card. This results in a referral rate of 6% and six thousand referred customers in the beginning of Year 2. The referral rate increased to 8% and 10% in subsequent years due to marketing costs. The revenue per customer is Rs.750/- in the first year. In the following two years, it goes up by Rs.99/- because the annual fee which was free in the first year kicks in. The direct costs are the same (Rs.400/-), but in addition we have the annual marketing costs of Rs.25/- but no acquisition cost of Rs.80/- . The discounted rate is worked out based on 7% interest and risk rate of 2. Life time value of customer is worked out to be Rs. 245, Rs. 546.26 and Rs. 778.75 for three years which shows the increasing trend of customer value addition to bank.
Thus the Life Time Value helps to find out the profitability trend of customers in the sales field and it is one of the yardstick for marketing men in banks and other selling centre points. They should target the customers having LTV on the increasing trend so that overall profitability of any firm can be intact.
Venkata Ramani AICWA