*The following article is a guest submission written by Shea Tilton of Cornerstone Billing Solutions:
There are a few key numbers that are extremely valuable to know, as owners plan and make investment decisions. One of those is the “Lifetime Value of a Customer," or LTV. It’s pretty simple to determine, so let’s walk through the process.
First, here's how the math works:
Basic residential subscribers with no add-ons might be paying $25/month, while a large commercial account with an extensive system could be paying several hundred dollars. But for LTV, you really need to come up with an average.
If you have good security company software, you should be able to run a report to quickly get this number.
In this example, the average subscriber pays $47.77 per month. You could also add average service revenue from billable service calls to this, but for simplicity we'll exclude it.
Next, review your direct expenses to support your subscribers. Here are some typical categories:
In this example, let's say subscriber expenses add up (conveniently) to $22.77. Deducting that from your revenue leaves $25/month in margin per average subscriber.
Attrition will always be a key number for security alarm companies, partly because it helps establish average customer longevity. Low attrition equals high longevity, and vice-versa. Potential buyers love low attrition, because it means they can expect a long average life for the accounts they buy.
This shows growth rate, attrition rate, and net growth — monthly average, and annualized. So this company is experiencing 8.5% attrition, which is pretty typical for a custom installation company. To translate this into an average subscriber life, just divide 1 by this percentage: 1 / .085 = 11.76 years. Then multiply 11.76 x 12 months in a year, and your subscribers stick around for about 141 months on average. That’s a long time!
Now it’s just a matter of some simple math, as follows:
Average margin per subscriber/month $25
X (times) Average lifetime of a subscriber (months) 141
= Lifetime value of a subscriber $3,525
This is very useful to know, because if you also know what your average "customer acquisition cost" is, comparing the two numbers can help you with sales and marketing investments. Let’s say you’re evaluating a software platform that will create efficiencies and allow you to trim your subscriber support expenses by $2/month.
In this example, the dealer has 1,873 subscriber accounts, so saving $2 each adds over $3,700 to monthly margin. It also increases the LTV of a subscriber by over $280. Likewise, if you have a customer issue and you want to do something to save the customer — in light of a $3,500+ LTV — you certainly have some leeway to offer some significant discounts or lower pricing to keep them happy.
In this industry, companies sell accounts typically as a multiple of recurring monthly revenue, or RMR. Multiples paid range from 20 – 40x in most cases. What does this LTV mean in relationship to the $47+ RMR? Let’s divide $3,525 by $47: the result is over 73x multiple! However, this is a bit misleading, because the LTV looks at margin over nearly 12 years in this example. A dollar twelve years out is worth much less than a dollar today. So in terms of current dollars, the LTV is lower. A financial expert would discount the future monthly margin by some factor to account for time and risk.
Cornerstone Billing Solutions
Phone: (244) 577-1197
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AvantGuard Monitoring Centers, LLC. | P.O. Box 15022 | Ogden, UT 84415 | Office: (877) 206-9141 | Fax: (801) 781-6133