Estimate customer lifetime value with a simple formula and say where that formula is weak.
When you know roughly what it costs to win a new customer, the next question is whether that cost is high. You can only judge that against what a customer is worth to you. Many owners answer with revenue, such as the monthly fee a customer pays, which leaves out how much of that revenue the business actually keeps.
Customer lifetime value (LTV) is the gross margin a customer brings over the whole time they remain a customer. The simple formula is average order value x orders per year x years as a customer x gross margin. Each input answers one question. Average order value asks how much a typical order or payment comes to. Orders per year asks how many times a year a customer buys or pays. Years as a customer asks how long customers stay. Gross margin asks how much of each dollar paid is left after the direct cost of delivering what was bought.
The formula is a simplification. It treats every customer as average and ignores that some leave early and others stay for years. For a small business deciding where to spend, it is usually good enough, as long as you treat the result as an estimate and keep the inputs visible.
Gross margin is the share of revenue left after direct costs. Direct costs include stock bought, materials, delivery, payment fees and pay for whoever delivers the service. Gross margin is not profit, because rent, software and your own salary still come out of it. It is the money available to pay for winning the customer. If a customer brings in S$1,000 of revenue and costs S$700 to serve, the amount they are worth towards marketing is S$300 of that S$1,000.
Using revenue instead of margin is the most common LTV mistake, and it makes every channel look better than it is.
Priya runs weekly classes. After lesson 8.1 she knows a new student costs her about S$200 to win, but she cannot tell whether that is a lot. Her first answer to what a student is worth is "about S$320 a month in fees" (an example figure), which ignores how much of that she keeps. After tutor's pay, worksheets and her payment provider's fee, she keeps about 60 percent, which gives her a monthly margin of S$320 x 60 percent, or S$192.
Farah runs a clothing shop that sells online. Her average order is about S$90 and her gross margin is about 40 percent after the cost of the clothes, packaging, delivery and payment fees (both example figures), so each order leaves her about S$36 once those direct costs are paid.
The weakest input is how long customers stay. A young business cannot know its long-term retention. For example, a business that is two years old cannot know how many customers stay five years. If you guess a long customer lifetime, LTV becomes a number that can justify any spending. Use a short horizon you can see in your own data instead. For most small businesses that is the first year, measured as the margin a new customer brings in their first twelve months.
In practice, take your average order value or typical payment from your records. Then find how many orders or payments new customers make in their first year. Set years as a customer to 1. Work out gross margin by subtracting direct costs (stock, materials, delivery, payment fees and pay for the people who deliver the service) from revenue. Multiply the four together, then compare the result with your acquisition cost from lesson 8.1. Update the figure as the business ages and more data comes in.
Priya's records show that first-year students pay for about ten months on average, because some leave after a term and a few start mid-year. Her first-year value per student is S$320 x 10 payments x 1 year x 60 percent = S$1,920. Using revenue, it would have come to S$3,200. She pays about S$200 to win a customer worth about S$1,920 in first-year margin, so her position looks strong. The figure took her about half an hour, using her enrolment spreadsheet and her accounts.
Farah's customers place about 2.2 orders in their first year. Her first-year value is S$90 x 2.2 x 1 x 40 percent = S$79.20, compared with S$198 if she had used revenue. Her customers are worth far less per head in year one, so she needs to look much more carefully at her channels.
An average across all customers hides useful differences. Customers from different channels often behave differently, and so do customers whose first purchase was different. A split by channel can change which channel looks cheapest. Farah splits her first-year value by channel, using her shop platform's customer records and the self-reported source answers from module 5. Customers from Google search spend S$100 an order on average and place 2.4 orders a year, so S$100 x 2.4 x 40 percent = S$96. Customers from Meta ads spend S$75 and place 2.0 orders, so S$75 x 2.0 x 40 percent = S$60. The difference comes from the searchers arriving knowing what they wanted and buying more over the year.
She could also split by first product. Customers whose first purchase was work trousers may come back for more, and customers who first bought a discounted scarf may not. A split by first product shows which products to lead with in your ads, as well as which channels to fund.
Splits only mean something when each group has enough customers. If a channel brought only six customers, its average is mostly luck, so make a note of it and wait for more data before acting on that channel's figure.
An LTV figure is only as believable as its inputs. Next to each input, write its source and time window, and mark estimates as estimates. Farah's notes might read:
average order value, shop platform, last 12 months orders per year, shop platform, customers who joined 12 to 24 months ago gross margin, owner's estimate from supplier invoices
When the sources are written down, you can show your working if someone questions the number, and you can see which input to update when better data arrives.
Now work out your own first-year value and put it next to the acquisition costs from lesson 8.1. Yours needs real orders from your own records, with each input traced back to where it came from.
Estimate your first-year customer value from real orders. Write down each input and where you got it.
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