5 Customer Metrics
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Transcript of 5 Customer Metrics
Customer Metrics
� Adapted from the textbook, “Marketing Metrics”by Farris, Bendle, Pfeiffer & Reibstein,2nd edition, Pearson Education
� Articles from Research and Practitioner journals
Recap
�Sales volume is composed of two factors
�Two marketing factors that affect trial rate
�Formula for CAGR
�Define cannibalization
Sriram D 2
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Cannibalization Rate (%)
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Session Objectives
�By the end of the session, students will be able
to:
� Appreciate the usefulness of customer metrics
� Understand basic, popular and strategic customer
metrics adopted by organizations
� Learn to focus marketing tactics on customer
portfolios based on strategic metrics
3Sriram D
Customer Metrics
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Customer Metrics
Primary
Acquisition
Retention
P(Active)
Popular
Share of Wallet
Share of Category
Strategic
RFM
CLV
CE
Acquisition Rate & Cost
�Acquisition Rate (%)
� First purchase or purchasing in the first predefined period
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� Typically computed on a campaign-by-campaign basis
�Acquisition Cost ($)
�Acquisition spending ($)
Number of prospects acquired
� Precise values for companies targeting prospects
through direct mail
� Less precise for broadcasted communication
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Retention and Defection
�Retention rate (%) = "Number of customers incohort buying in (t)| buying in (t−1)" /"Numberof customers in cohort buying in (t−1) "
�Avg. Defection rate (%) = 1 – Avg. Retentionrate
�Assuming constant retention rates, number ofretained customers in any arbitrary period(t+n)
�= Number of acquired customers in cohort *Retention rate (t+n)
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Example
� If the average retention rate is 0.75 or 75% per year. i.e., on an average, 75% of
the customers remain customers in the next period
� The effect for a cohort of customers over time – out of 100 customers who start
in year 1, about 32 are left at the end of year 4
Customers starting at the beginning of year 1: 100.00
Customers remaining at the end of year 1: 75.00 (0.75*100)
Customers remaining at the end of year 2: 56.25 (0.75*75)
Customers remaining at the end of year 3: 42.18 (0.75*56.25)
Customers remaining at the end of year 4: 31.64 (0.75*42.18)
Assuming constant retention rates, the number of retained customers at theend of year 4 is 100*(0.75)4 = 31.64. (Number of acquired customers in cohort *Retention rate (t+n) )
The defection rate is 1-0.75 = 0.25 or 25%
Sriram D 7
P (Active)
�Probability of a customer being active in time t
�P(Active) = Tn
� where, n is the number of purchases in a given period , T isthe time of the last purchase (expressed as a fraction ofthe observation period)
�To compute the P(Active) of each of the two customersin the 12th month of activity (recent purchase in 8th month)
For Customer 1: T = (8/12) = 0.6667 and n = 4P(Active)1= (0.6667)4 = 0.197
And for Customer 2: T = (8/12) = 0.6667 and n = 2P(Active)2= (0.6667)2 = 0.444
Sriram D 8
Share of Category Requirement (SCR)
� SCR (%) of firm or brand in category = Vij / Vij
j = firm, V = purchase volume, i = those customers who buy brand
= summation of volume purchased by all the I customers from a firm j
= summation of volume purchased by all I customers from all j firms
� Accepted measure of customer loyalty for FMCG categories, controls for
the total volume of segments/individuals category requirements;
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JJJJ1111jjjjTotal requirement of
Notebook computers
per customer
(A)
Total no. of Notebook
Computers purchased
from ABC Computers
(B)
SCR for ABC computers
per customer per period
(B/A)
Customer 1 100 20 0.20
Customer 2 1000 200 0.20
Customer 3 2000 500 0.25
Share-of-Wallet (SW)
� Individual Share-of-Wallet� Individual Share-of-Wallet of firm to customer (%) = Sj / Sj
S = sales to the focal customer
j = firm
= summation of value of sales made by all the J firms that sell a
category of products to a buyer
�Evaluation:
Important measure of customer loyalty; however, SW is unable to
provide a clear indication of future revenues and profits that can be
expected from a customer
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Share of Wallet
�Aggregate Share-of-Wallet (ASW) (brand or
firm level)
� Aggregate Share-of-Wallet of firm (%)
= Individual Share-of-Walletji / number of customers
= Si / Sij
S = sales to the focal customer, j = firm, i = customers who buy
brand
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Applications of SCR and SW
�SCR -for categories where the variance ofcustomer expenditures is relatively small
�SW - if the variance of consumer expenditures isrelatively high
�Share-of-wallet and Size-of-walletsimultaneously – with same share-of-wallet,different attractiveness as customers:
Sriram D 12
Share-of-
Wallet
Size-of-
Wallet
Absolute expenses
with firm
Buyer 1 50% $400 $200
Buyer 2 50% $50 $25
Absolute attractiveness of Buyer 1 eight times higher than buyer 2
Segmenting Customers Along Share & Size of Wallet
Sriram D 13
High
Share-of-wallet
Low
Size-of-wallet
Hold on
Do nothing
Target for additional selling
Maintain and guard
Small Large
RFM (Recency, Frequency, Monetary Value)
�Recency, Frequency and Monetary Value-applied on
historical data
�Recency -how long it has been since a customer last
placed an order with the company
�Frequency-how often a customer orders from the
company in a certain defined period
�Monetary value- the amount that a customer
spends on an average transaction
�Tracks customer behavior over time in a state-space
Sriram D 14
RFM - Regression Method
�Regression techniques to compute therelative weights of the R, F, and M metrics
�Relative weights are used to compute thecumulative points of each customer
�The pre-computed weights for R, F and M,based on a test sample are used to assignRFM scores to each customer
�The higher the computed score, the moreprofitable the customer is likely to be in thefuture
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Recency Score
�20 if within past 2 months; 10 if within past 4 months;05 if within past 6 months; 03 if within past 9 months;01 if within past 12 months; Relative weight = 5
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Customer Purchases
(Number)
Recency
(Months)
Assigned
Points
Weighted Points
1 2 20 100
JOHN 2 4 10 50
3 9 3 15
SMITH 1 6 5 25
1 2 20 100
MAGS 2 4 10 50
3 6 5 25
4 9 3 15
Frequency Score
�Points for Frequency: 3 points for each purchasewithin 12 months; Maximum = 15 points; Relativeweight = 2
Sriram D 17
Customer Purchases(#) Frequency Assigned
Points
Weighted
Points
1 1 3 6
JOHN 2 1 3 6
3 1 3 6
SMITH 1 2 6 12
1 1 3 6
MAGS 2 1 3 6
3 2 6 12
4 1 3 6
Monetary Value Score
� Monetary Value: 10 percent of the $ Volume of Purchase
within 12 months; Maximum = 25 points; Relative weight = 3
Sriram D 18
Customer Purchases
(Number)
Monetary Assigned
Points
Weighted
Points
1 $40 4 12
JOHN 2 $120 12 36
3 $60 6 18
SMITH 1 $400 25 75
1 $90 9 27
MAGS 2 $70 7 21
3 $80 8 24
4 $40 4 12
RFM Cumulative Score
� Cumulative scores: 249 for John, 112 for Smith and 308 for Mags; indicate apotential preference for Mags
� John seems to be a good prospect, but mailing to Smith might be amisdirected marketing effort
Sriram D 19
Customer Purchases
(Number)
Total Weighted Points Cumulative Points
1 118 118
JOHN 2 92 210
3 39 249
SMITH 1 112 112
1 133 133
MAGS 2 77 210
3 61 271
4 37 308
Calculation of Lifetime Value: Simple Definition
� LTV = lifetime value of an individual customer in $, CM =contribution margin, δ = interest rate, t = time unit, Σ =summation of contribution margins across time periods
� LTV is a measure of a single customer’s worth to the firm
� CM and T from managerial judgment or from actualpurchase data.
� The interest rate, a function of a firm’s cost of capital, canbe obtained from financial accounting
� Typically based on past customer behavior and may havelimited diagnostic value for future decision-making
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=
+=
LTV formula - Infinite Time Period (Gupta & Lehman)
Sriram D 21
where
LTV = lifetime value
m = margin or profit from a customer per period
r = retention rate (e.g. 0.8 or 80%)
i = discount rate (e.g. 0.12 or 12%)
LTV = m(�
,-".�)
Margin multiples to calculate CLV
�Store A – Retention rate – 70%; Margin – Rs 40
�Store B – Retention rate – 80%; Margin – Rs 35
�WACC – 12%
�Calculate CLV of a customer in both shops. Which storehas higher CLV customers?
Sriram D 22
RETENTION RATE
DISCOUNT RATE
10% 12% 14% 16%
60% 1.20 1.15 1.11 1.07
70% 1.75 1.67 1.59 1.52
80% 2.67 2.50 2.35 2.22
90% 4.50 4.09 3.75 3.46
Customer Equity
� Sum of the lifetime value of all the customers of a firm
� Customer Equity,
� Indicator of how much the firm is worth at a particular point in
time as a result of the firm’s customer management efforts
� Can be seen as a link to the shareholder value of a firm
� Customer Equity Share, CESj = CEj / k,
where, CE = customer equity , j = focal brand, k = all brands
Sriram D 23
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CLV Exercise
� M/s XYZ is a seller of power drills. They sell four models targeted at differentsegments. Sales are achieved through industrial dealers.
� Customer acquisition is done through a combination of advertising and salespromotion (A&SP).
� They have spent Rs 16 crores on the four products to acquire customers in proportionto the margin delivered by each product.
� Company has additional revenue stream through consumables and repairs.Consumables have to be replaced every year to customers. Usually customers spendsome amount on repairs during Year 3 of operations.
� Life of product is five years
� Calculate LTV for each product. Which product is attractive in terms of total cash flowgenerated for the company?
Sriram D 24
ProductPrice /
unit (Rs)
Sales
(nos)Margin
Consumable
Cost Margin
Repair
CostMargin
A 3500 250,000 15% 100 10% 500 25%
B 6000 120,000 18% 250 15% 750 25%
C 8000 75,000 22% 300 25% 1000 25%
D 12000 15,000 30% 1000 40% 2000 25%
CLV Exercise
Sriram D 25
ProductPrice /
unit (Rs)Margin
Sales
(nos)Margin earned (Rs)
% contribution
to Margin
Acquisition Cost
(Rs)
A 3500 15% 250000 131,250,000 29 46,995,636
B 6000 18% 120000 129,600,000 29 46,404,834
C 8000 22% 75000 132,000,000 30 47,264,183
D 12000 30% 15000 54,000,000 12 19,335,347
446,850,000 100 160,000,000.00
Consumables Replacement
Year 1 Year 2 Year 3 Year 4 Year 5 Year 3
2500000 2500000 2500000 2500000 2500000 31250000
4500000 4500000 4500000 4500000 4500000 22500000
5625000 5625000 5625000 5625000 5625000 18750000
6000000 6000000 6000000 6000000 6000000 7500000
CLV Exercise
Sriram D 26
PV of Cash Flow
Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 Total %
A 84,254,364 2272727 2066116 25356875 1707534 1552303 117,209,918 28
B 83,195,166 4090909 3719008 20285500 3073561 2794146 117,158,290 28
C 84,735,817 5113636 4648760 18313298 3841951 3492682 120,146,145 29
D 34,664,653 5454545 4958678 10142750 4098081 3725528 63,044,234 15
417,558,588