A crucial concept for any marketing practitioner is what Jay Abraham calls the Marginal Net Worth and what others call the Lifetime Value Of A Customer.
What is Marginal Net Worth?
Basically marginal net worth is the profit that will come from the total stream of customer transactions after deducting the costs of creating the customer in the first place.
What is The Lifetime Value Of A Customer?
The lifetime value of a customer is the profit on all the transactions with an average customer.
Beware, some marketing experts define the lifetime value as the sales revenue from a customer but that is dangerous. There is a big difference between sales revenue and profit (see Turnover is vanity). You can make the wrong decisions because you don’t have a number to compare to the average cost of acquiring the customer.
Marginal Net Worth or Lifetime Value Of A Customer
There are advantages in both phrases but Jay Abraham’s marginal net worth is more profit focused if you spend a high proportion of your lifetime value on acquiring an average customer.
Let me give you an example:
- Lifetime value of a customer = £450
- Average cost of acquiring a customer = £275
- Marginal net worth = £175 (450-275)
In these numbers, it is expensive to acquire create leads and convert them into customers but it is still well worthwhile. If you ignore the acquisition cost, you could start thinking that acquiring more customers with a different demographic and psychographic profile at a lifetime value of £300 is a good idea. Factoring in the acquisition cost forces you to make sure it makes sense.
I’ve heard Dan Kennedy switch around the logic. Whoever can afford to spend the most on marketing to acquire new customers can go on to dominate their market because it can be such a powerful advantage.
The lifetime value of a customer is a phrase that is more easily understood and remembered although the danger is that it is quoted in sales revenue terms and not profit.
The very similar phrase lifetime customer value may also not include the deduction of the initial customer creation costs which will report false positives where costs of acquisition exceed the value captured.
The Link Between Marginal Net Worth And The Three Ways To Grow A Business
The marginal net worth concept builds on Jay Abraham’s three ways to grow a business model:
- Increasing the number of customers
- Increasing the number of times that customer buys
- Increasing the sales and profit made on the average transaction.
Specifically the Marginal Net Worth or Lifetime Value Of A Customer concept forces you to consider the last two ways to grow because the more times they buy and the more money you make on every transaction then the more one new customer is worth to you.
A One Time Sale Is A Tough Business Model
I keep saying that having a business where you make a one time sale to a customer with no back end or residual income is a hard way to earn a living.
You have to keep finding more and more new customers who will buy your product or service and you don’t get your deserved reward for doing a great job.
This was a particular problem for a former roofing company client of mine.
They set high standards, both in terms of work provided and in dealing with their customers ethically. Unfortunately these were not matched by competitors who would low ball and quote much lower prices, cut corners on the work and make up the profit on extras when the customer was committed.
Can You Increase The Customer Lifetime Value?
All of methods for increasing the number of transactions and transaction values will help you to increase the stream of future profits from a customer.
How Much Does It Cost You To Create A Customer?
You do measure your marketing in terms of cost and results don’t you?
If you do then you will be able to work out how much, on average it costs to create a customer in total and from each different lead generation method. This is called the customer acquisition cost.
Why The Marginal Net Worth Concept Is So Important?
The marginal net worth or lifetime customer value lies at the very centre of my concept of customer focused entrepreneurs. It is how you make sure that you are very well rewarded for providing great value and service to your customers.
You know how much profit an average customer will generate in a year and you can make an estimate of how many years they will stay a customer.
You also know how much it costs you to acquire customers and by comparing the two numbers you know whether you can justify increasing your investment in marketing or whether you should immediately stop some lead generation methods because they just do not pay.
Some More Examples of Marginal Net Worth
You invest £1,000 in an advert each month which generates 30 leads and you convert 1 in 3.
That means that you can expect to generate 10 new customers every time you run the advert and those customers cost you £100 each.
If they buy £200 of goods or services from you on the first transaction and you make an average margin of 25% (or £50) then, without this concept you may think that the advert doesn’t pay.
Why spend £1,000 to bring in 10 customers who will create profits of only £500. That’s a net loss of £500.
But what if those customers will buy five times per year and spend £200 each time. That makes each customer worth an annual profit of £250 (5 times the £50 profit).
Now we are talking. We invest £100 to create the customer and get a £250 back.
But those customers will come back the next year as well. In fact we calculate that on average a customer will buy for three years.
So the lifetime value of the customer is the £250 profit per year times the 3 year average lifetime. That’s £750 profit on the sales transactions or a marginal net worth of £650 after paying for the customer acquisition costs.
Now suppose you can’t increase the number of adverts you run in that media but you can advertise elsewhere.
You try different magazines and newspapers and find that some cost £150 to create a customer, some cost £200 and some cost £500.
Because you know the customer lifetime value, you are able to make an informed decision. None of these other advertising media are as good as your initial source but you can still justify the investment in some additional marketing.
The Ideal Situation: You Want A Huge Backend
The profit on the back end is a powerful concept that is captured by the marginal net worth although ideally you would look to make a profit from the very first transaction onwards.
But in some industries, that is just not possible.
The lifetime value of a customer gives you confidence to invest in your lead generation activities although you do need to be keep a very careful eye on the numbers.
Find Out More About Back End Marketing
When I think about back end marketing, I inevitably find myself thinking about Jay Abraham. I confess I am a Jay Abraham addict and I have many programs that are not commonly available.
He built a reputation as the most expensive marketing consultant in the world and his training courses and information products are often very expensive.
I recommend his excellent book – see my Getting Everything You Can review.
There are other books by other authors that also pick up on these ideas so check out my recommended profit improvement books.
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