How to Measure Customer Value (And Why It Matters)

EDITOR’S NOTE:  Because extended enterprise learning involves multiple disciplines, we sometimes ask other experts to share their insights with our readers. Today we feature advice about customer value metrics from Laura Patterson, President of VisionEdge Marketing.

Laura is widely recognized as an authority in marketing measurement and performance, content management, marketing operations and data analytics. Business-minded learning professionals will find her guidance practical, relevant and useful.

For several years, I’ve been exploring the concept of marketers as “value creators.” The C-suite considers these individuals indispensable because they excel at proving how their marketing initiatives contribute to business impact.

But what exactly does it mean to create value? And how can you reflect this in customer-focused metrics?

The Power of Value Creation

Every business is based on the principle of value creation. In essence, we create value whenever we deliver a product or service that provides utility to others, and in turn generates additional economic return for our organization.

In his classic Marakon Commentary, Ken Favaro explains why putting value creation first is such an important strategy:

“Understanding where, how and why value is created within your company and your markets is the best, most objective way to identify which of your activities and assets are distinctive enough to provide a platform for sustainable and profitable growth.”

Why Value Creators Put Customers First

As Favaro frames it, value creation is more than calculating the optimal price customers will pay for a good or service you offer. And it’s not just about reducing costs or increasing productivity. Rather, it’s about attracting incremental customer revenue streams by delivering something entirely new or improving something in a compelling way.

This distinction is important because it underscores the fact that value creation is determined by your customers – not your company.

People purchase a product or service only when they perceive that they will benefit from the transaction. Therefore, it’s essential to understand what your customers value most. Usually, this extends beyond core product features, functionality and price point.

Keenly understanding what customers value is a characteristic that distinguishes “marketers as value creators” from their counterparts. These professionals continuously prioritize product and process innovation that customers will find relevant, important and useful.

How can you join the ranks of these value creators? Start by calibrating the value you currently deliver to customers. Then identify what you can do differently to add more value.

Below are tips for a successful analysis…

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The Psychology of Customer Value

Organizations everywhere can benefit from measuring value creation.

Most business leaders have come to accept that customers drive shareholder value. So it’s not surprising that customer metrics are featured in many CEO scorecards. But which customer metrics matter most?

If we work from the perspective that value is determined by the customer and that value creation is derived from customer relationships, then it makes sense to consider customer relationship value as a key metric.

Not to be confused with customer lifetime value (LTV) – which reflects the net present value of a relationship over its entire lifespan – customer relationship value measures whether each interaction moves a relationship forward or backward.

Factors that Influence Customer Value

Viewing the customer as a primary driver of shareholder value naturally leads to a variety of underlying questions about customer mix, defection rates, relative profitability of each segment, average new customer acquisition costs and more.

Often, marketing isn’t prepared to answer these questions. That’s because we tend to emphasize front-end performance indicators (such as new lead volumes or campaign conversion rates), rather than focusing on the depth and longevity of existing customer relationships.

It may seem obvious that valuable customers tend to buy more frequently, buy in larger volumes and buy more products over time. But it’s important to quantify these behaviors in a specific way.

Exploring these four questions can help you develop a useful customer value metric:

• Which of our existing customers buy repeatedly – and how often do they buy?
• How can we segment customers by frequency, volume and variety of products purchased?
• What is our customer defection rate?
• How do customers rank in their likelihood to buy again?

Answering these questions will likely require extra research and data analysis. However, the effort is worthwhile because it helps you make better decisions about investments (like training and support) that can help you improve customer relationships.

Creating a Customer Value Metric: 3 Variables

To apply customer relationship value as a key leading indicator, you’ll need access to relevant data points. Typically, organizations focus on these underlying metrics:

• Revenue per customer
• Profit per segment
• Customer lifetime value
• Satisfaction (as it relates to repurchase intent)

To make this data more meaningful, consider these three variables:

• The set of all interactions between your customers and your company
• The cost of each of these interactions
• The direction and distance in which a relationship moves forward or backward in response to each interaction

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Creating a Customer Value Index: 7 Variables

For next-level insight, it’s worth developing a customer value index. This is a type of composite measure that summarizes and rank-orders specific variables in a way that represents a general dimension (in this case, customer value).

Essentially, an index is an accumulation of scores from a variety of individual items. This is helpful because it lets you evaluate these elements in a systematic and consistent way.

By indexing customer value data, you can compare the relative attractiveness of customer relationships in an “apples-to-apples” fashion. This can be particularly helpful when deciding which individual customers or segments are worthwhile targets for additional investment.

When creating your customer value index, consider incorporating these 7 variables into your formula:

• Total number of purchases over the customer’s lifetime
• Average purchase value
• Purchase frequency
• Number of products/services purchased
• Time between each purchase
• Number of referrals generated
• Length of customer relationship

There are several ways to combine these variables in a customer value index. The simplest approach is to define a standard method for “adding up” the values for each variable. Then establish an index score.

This means you’ll need a common way to “rate” each variable. For example, you may choose a 1-10 scale, with 1 = lowest score and 10 = highest score.

Next, for each of these scores, specify a multiplier based on the relative “weight” of each variable. For example, you may choose a multiplier scale of 1-5, with 1 = lowest weight and 5 = highest weight.

Once you establish your indexing model, you can transform data from each customer into a standardized score. Customers whose scores rank above the index “average” are considered higher value, while conversely, below-average scores represent lower-value customers.

Now you’re ready for the next-level performance metric – customer asset value.

Creating a Customer Asset Value Score: 5 Variables

Like any financial asset, it’s vital to understand the value of customer relationships in terms of the future profit they’re expected to generate. This is why customer asset value is so useful.

By subtracting related costs from projected future profits, you can determine the net asset value of an individual customer or set of customers. And if you can increase any of these expected profit streams, you’ll add new net value to your business.

Of course, no company has unlimited funds for marketing, service or support. That’s why it’s important to focus and prioritize customer-related investments.

Scoring customer asset value is an excellent way to differentiate customers, so you can determine which ones represent the highest potential return.

Multiple variables can help you create an objective, reliable customer asset value score. Start with these five:

• Current revenue streams
• Purchase frequency and recency
• Referral rates
• Share of wallet (% of category spending that you capture, relative to competitors)
• Potential future revenue

After calculating asset value for all customers, you can map their scores on a multi-tiered scale and then prioritize your resources, accordingly. In addition, you can use these scores to build a profile of your “ideal” customer.

Fundamentally, this analysis indicates an organization’s effectiveness at creating customer value. That’s why it’s helpful to put this metric at the heart of your customer value measurement strategy, no matter how small or large your customer base may be.

For more ideas about how to develop and apply metrics that will help you improve the business impact of your extended enterprise training programs, see related posts and other resources at VisionEdge.

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EDITOR’S NOTE: This has been adapted, with permission, from a post published on the VisionEdge Marketing blog.