How to Calculate and Lower the Cost of Your Customers
Hello there and welcome to the 16th instalment of my Business Growth Masterclass. The step by step guide to building the business you always wished you could have.
Today, we’re going to look at how to calculate the cost of your customer and a few techniques you can use to lower that cost and increase the profitability of each of your customers, both old and new.
As ever though, before we get our teeth into today’s material, lets just check on actions from the last Business Growth Masterclass:
Did you do your homework?
- You have a system in place for measuring your conversion rate on a daily, weekly, monthly and by-campaign basis.
- You have chosen two new strategies to implement for an increase in conversions, and are measuring the results.
Great. Homework done. Now let’s get started with today’s Business Growth Masterclass.
When you buy a product, you want to receive the most for your money. The same is true for customer acquisition.
Generating leads and converting those leads into paying customers is a process that costs you money. You can attribute a piece of your marketing and sales costs to each of the customers that you successfully attract and convert.
Essentially, you buy customers for your business.
Let me repeat that: essentially, you buy customers for your business.
Please read this again and understand it on a very basic level. If I sent you to the store with £40 to buy a white t-shirt, you would be successful. Well you can do the same thing with GOOD clients (ones that pay, stay and refer). Do not be scared to go into the business of buying good clients. This one distinction can completely change the way you do business and your level of success.
So when you think of your customer as your most valuable asset, you’re absolutely right. They’re an investment in your business that you expect to see a return from.
As with any investment, you not only want to see a return, but you want to see the greatest return possible. In this case, you could try to reduce your marketing budget, or boost your profit margins, but the easiest way to minimise the cost of a customer and maximise your return is to increase the number of times each customer buys from you.
In the five-step process, this is called increasing the number of transactions in your business. Instead of constantly chasing down leads and buying new customers, your work is to keep the customers you have bought coming back to spend more money.
In this Business Growth Masterclass we will cover:
- The financial impact of repeat business
- How to figure out the average number of transactions of your business
- How to calculate your average customer acquisition cost
- The lifetime value of your customers
- The 80/20 rule and letting some customers go
- How you can lower the cost of your customers to boost profits
Increasing your repeat business is one of the easiest and most cost-effective ways to boost your bottom line.
Turning a single transaction customer into a repeat or lifetime customer is one of the simplest ways to boost your bottom line. It costs very little and is largely based on the experience you can create for the people who buy from you.
With a little bit of time and thought, you can turn single-transaction customers into loyal patrons, or even big fans of your business. This not only translates into returning customers, but also earns customers that refer you to their friends.
Financially, the more times a customer buys from you, the lower their acquisition cost becomes. You only have to buy customers once, so when that figure is spread over several transactions it goes down.
Here’s a chart of how a 10% increase and 30% increase in average number of transactions can impact your bottom line.
|Starting Point||10% Increase||30% Increase|
|Transactions||1.3||1.43 (10% increase)||1.69 (30% increase)|
|Average Sales Value||£140||£140||£140|
What is the average number of transactions for your business?
If you have a system for managing customer accounts and tracking purchases, this next step will be really straightforward. If you have a computer-based point of sale system, your reporting functions may even be able to calculate this figure for you.
To figure out the average number of times each customer buys from you, you need to choose a time period (the last 12 months is a good starting point) and a sample of customer accounts with the number of times each has purchased from you. Take 50 at random, or all the customers starting with the letter “T” as an example to illustrate the point.
Then, add up the total number of transactions for each of the customers in your sample, and divide the total by the number of customers in your sample. This is your average number of transactions. For example, if I have a sample of 10 customers, my calculation might look something like this:
4 + 5 + 2 + 8 + 5 + 1 + 2 + 2 + 2 + 6 = 32 32 / 10 = 3.2 average number of transactions
If you don’t have an existing data source for this information, survey your customers or start your own tracking system to use over the course of a week or month. Note on your customers’ accounts when they purchased and what they purchased, or keep a tally at the cash register. If you can’t survey your customers or create a viable database, then just estimate the figure based on your observations over a week or over the history of your business.
Remember that the average number of transactions is going to be different for every business. Grocery stores will have far different figures than furniture stores, computer stores will have dramatically different numbers than coffee shops based on the frequency that people need those products or services.
What is the average customer acquisition cost for your business?
Do you know how much do you spend – on average – on each customer you acquire? To calculate this, simply divide the amount of money you spend per month (or per campaign) on lead generation by the total number of sales in that month (or campaign duration).
For example, if you spend an average of £5,000 each month on advertising, and you generate about 250 unique sales per month, your average customer acquisition cost is £20. Or, if you spent £10,000 on an ad campaign over three months, and generated 400 campaign-specific sales, your customer acquisition cost would be £25.
To evaluate this figure, look at it as a percentage of your average sale. Of the 250 unique sales in first example from the paragraph above, and say the average purchase was £75, £40 of which was margin. Subtract the customer acquisition cost from your margin, and you’ll have the average profit of each sale, in this case it’s £20.
What is the lifetime value of your customers?
Now, assuming your average customer acquisition cost is £20, let’s take a look at what would happen if you turned that customer into a lifetime customer. What value does that customer have to your business?
First let’s look at the value of a single transaction customer:
|Customer Acquisition Cost||£20|
|Number of transactions||1|
|Average value of each transaction||£75|
|Average profit margin||£40|
|Margin minus acquisition cost||£20|
|Total value of customer||£20|
Then, assume that an average customer ‘lifetime’ with your business is about five years. Calculate as you did above, spreading the customer acquisition cost over the total number of transactions.
|Customer Acquisition Cost||£20|
|Number of transactions||15 (assuming 3 per year)|
|Average value of each transaction||£75|
|Average profit margin||£40|
|Margin minus acquisition cost||£38.67 (£40 – [£20/15])|
|Total value of customer||£580|
Here’s a more in-depth look at cost of a single transaction customer, in comparison to a tripe transaction customer or a lifetime customer:
|Customer Acquisition Cost||£20||£20||£20|
|Number of Transactions||1||3||15|
|Average Value of Each Transaction||£75||£75||£75|
|Average Profit Margin on Each Transaction (excluding acquisition cost)||£40||£40||£40|
|Actual profit per Transaction (profit margin – [customer acquisition cost / # of transactions])||£20 (£40 – £20)||£33.33 (£40 – (£20/3))||£38.67 (£40 – (£20/15))|
|Lifetime Value of Customer (in profit)(actual profit per transaction x # of transactions)||£20||£100||£580|
Based on the chart above, you can see that the lifetime customer who purchased from you 15 times over five years brought your business £580 in profit, in comparison to the single transaction customer who brought your business £20 in profit.
Both customers cost you the same amount – £20 – but there is a £560 difference in return on investment! Repeat business – the average number of transactions per customer – makes a huge difference on your bottom line.
Give yourself permission to fire some of your customers.
Everyone has a group of customers they enjoy doing business with and are pleased to continually serve (our A-list). Likewise, we all also have a group of customers (our C-list) who are a pain to deal with. They may consistently complain, only take advantage of special offers or never spend much money after a bunch of hassle.
Like a good business owner, I bet you treat every customer with respect, and give them the attention they need – even the C-list. Here is where the 80/20 rule applies: 80% of your revenue comes from 20% of your customers. That 20% of your customers is what we call your A-list.
The important point here is that while you’re busy trying to make your C-list customer happy, you’re missing the opportunity to give your A-list customer the level of service they deserve. Since the majority of your revenue comes from your A-list customers, that’s where you should be focusing your efforts.
So, give yourself permission to fire your C-list, and stop bending over backwards to address their concerns. Don’t let them rule your time. Spend your efforts making your A-list happy, and their purchases will more than make up the difference.
Let’s look at some strategies that will help you boost your repeat business, and your bottom line.
Everyone- even businesses with high customer service standards – can improve the service they provide to their customers. This phrase is used a lot, but it’s true: Under promise and over deliver.
If you’re looking for new ways to impress your customers with service, conduct a survey of your existing customers and ask them how you can enhance or streamline their experience dealing with your company.
When you establish standards of customer service, make sure they are:
Consistently implemented by everyone in your business. Every customer who walks through the door experiences the same level of service, and receive that same service every time they walk through the door.
Convenient for your customer. Make the purchase process seamless for your customer. Think of all the steps your customers has to take from driving or walking to the store until they leave with their purchase, and try to eliminate any inconvenient elements.
Driven by the needs and wants of the customer. Understand how your target market wants to be treated when they’re purchasing from you. What do they value most from the experience? High end linens, or fast service? One-on-one assistance, or ample space and time to browse?
Use newsletters to establish and maintain regular contact with your customers. This is an easy, time-effective and cost-effective customer retention strategy
You’ll spend an upcoming Business Growth Masterclass learning how to create and send effective newsletters, but the most important point to remember is that the newsletter (just like all other marketing materials) needs to be focused on the needs and interests of your target audience.
The most popular and environmentally friendly form of distribution is through email. This is highly cost effective, as some web-based programs start at just £10 per month, and can be customised to your business’ graphic standards.
Here is a list of the types of content you can include in your newsletter:
- Expert advice or opinion
- New product or service features
- New offers or promotions
- Company news
- Customer surveys
- “Missed you!” emails
- Event or closed-door sale invitations
Find ways to increase your customers’ perception of value so they feel that their money goes further at your business compared to the competition. Value added products or services not only add to your average Transaction value but create repeat customers by:
Making a great first impression. Providing a customer with more than they expected – something goes beyond meeting their needs – establishes a solid first impression of your business. They learn to associate the experience of shopping at your business with pleasant surprises, which is a huge draw for returning customers.
Giving them a reason to come back. The perception that your products or services have a higher value than the competition will convince your customers to purchase from you, and refer their friends. The addition of new value-added products or services will keep them coming back.
Here are some examples of added value:
- Free shipping/delivery with minimum purchase
- Premium product or service line
- Bonus gift with minimum purchase
- Complementary product packages
- Guarantees or risk-free purchases
Incentives and Customer Loyalty Programs
A common form of customer retention is to provide incentives to customers to entice them to come back and buy from you.
A systemised form of incentives is called a Customer Loyalty Programme – and I bet you’re part of several. Loyalty programs work because they provide a consistent visual reminder of your business through a card, key fob, rewards vouchers, or other such items, and give the customer a financial incentive to purchase from you instead of your competition.
These programs vary from simple cards to complex rewards structures, but they don’t have to be complicated or costly. Plus, once they’re in place, they’re super easy to maintain. Loyalty programs are also great market research tools because you can collect a wealth of information on the signup form, maintain a detailed database and monitor their purchase habits.
You’ll spend an entire Business Growth Masterclass learning how to set up a loyalty programme from start to finish, but here are the basic structures to give you an idea:
Loyalty Cards Provide a wallet size card and use a stamp or punch to track their purchases until they reach 10. When they reach the magic number, the next product or service is free.
Rewards Dollars Return a certain percentage of each purchase to the customer using coupons that can only be spent with you.
Rewards Points Award a certain percentage of each pound they spend to a points account. These points can be used to spend in-store, or on special items brought in for points-holders only.
Membership Amenities Produce membership cards, and give your members access to services, discounts or amenities that other customers do not have access to.
Remember, each of your customers is a valuable asset that you have purchased to grow your business.
Treat your customers like you would treat good friends, and offer them the perks and rewards they deserve for their loyalty. I find that this approach is also a lot more rewarding because I get to know my customers, and some of them actually become friends.
Of course, there will always be a few clients you’ll never please, so keep the 80/20 rule fresh in your mind. Don’t be afraid of firing the customers who drain your time and your resources. Your A-list will more than make up the difference in revenue.
In the next Business Masterclass, I’ll show you a ton of ways you can add value to your product or service, and boost the pound value of each and every sale.
As always, let me know if you have any questions.
You can use the contact form below to discuss and get help with the topics covered in this, or any of the previous Business Growth Masterclasses.
Until next time, good luck!