Why LTV's Are Important In Business Ep 391

Summary Notes


In this insightful discussion, the host and guests, including an unnamed entrepreneur, delve into the significance of understanding and calculating a company's Lifetime Value (LTV) to foster growth and scalability. They explore three methods to estimate LTV—based on lifetime sales, churn rate, and sales velocity—emphasizing the importance of these metrics in making informed business decisions. The host, who represents acquisition.com with a portfolio of $100 million, shares practical, back-of-napkin strategies for entrepreneurs to project future growth, manage churn, and potentially increase enterprise value. By improving customer retention and experience, businesses can enhance their LTV, enabling them to invest more in customer acquisition and scale effectively. The conversation also touches on the challenges businesses face, particularly in the $3 to $10 million range, where insufficient per-customer earnings can hinder scalability.

Summary Notes

Importance of LTV in Business Evaluation

  • Companies with strong LTVs or the potential for strong LTVs are desirable for investment and scaling.
  • LTV stands for Lifetime Value, a critical metric in entrepreneurship.
  • Knowing the LTV helps determine how much to spend on customer acquisition.
  • The podcast is intended to educate entrepreneurs on calculating and understanding LTV.

"When we're looking at companies, we want to see companies with strong ltbs or the potential to have strong ltbs, so that in the future we could spend more in the acquisition and scale the business."

This quote emphasizes the importance of Lifetime Value (LTV) as a key metric for evaluating companies for investment and growth potential.

Methods to Calculate LTV

  • There are three different ways to calculate LTV: lifetime, churn, and sales velocity.
  • Each method provides a different approximation of LTV.
  • Understanding how to calculate LTV is crucial for entrepreneurs.

"So I'm making this so that you know, one of the most important metrics in entrepreneurship. And I'm going to give you three different ways you can calculate it."

Speaker A is introducing the topic of calculating LTV as a vital metric for entrepreneurs and is about to explain three different methods for doing so.

LTV Calculation Based on Lifetime

  • The first method of calculating LTV is based on the total sales and total customers over a company's lifetime.
  • This method can underestimate LTV for growing businesses as it doesn't account for future earnings.
  • It provides a starting point for understanding LTV.

"So what you do here is you add these up, which means you have 6 million in total sales lifetime. Over 600 total customers lifetime. This is, again, back of napkin math of how to get to how much you make per customer."

Speaker A explains the process of calculating LTV by dividing total sales by the total number of customers, which gives a basic estimate of revenue per customer.

LTV Calculation Based on Churn

  • Churn is the percentage of customers that leave over a period, such as a month.
  • Churn is calculated by dividing the number of customers who left by the total number of customers at the start of the period.
  • This method uses churn to estimate how long a customer stays and, consequently, their LTV.

"Now, the second way that you can calculate LCV is based on churn. And if you don't know what churn is, it's going to be the percentage of customers that leave at the end of the month that were here at the beginning of the month."

Speaker A introduces churn as a factor in calculating LTV and defines churn for the audience.

Understanding Churn and Its Impact on LTV

  • Churn is a simple yet critical concept in determining customer retention.
  • Calculating churn requires focusing on the initial and final customer counts within a period, excluding new sales.
  • Churn impacts the LTV by reflecting the average customer lifespan.

"That is your churn. Very simple."

Speaker B reinforces the simplicity of calculating churn, which is an essential part of understanding LTV.

LTV Calculation Based on Sales Velocity

  • Sales velocity is the third method to calculate LTV, which Speaker A prefers.
  • Sales velocity looks at the rate of acquiring customers and their value over time.
  • The method was not fully explained in the transcript provided.

"And I'll finish with sales velocity because it's the one that I use most frequently."

Speaker A mentions sales velocity as their preferred method for calculating LTV but does not elaborate further within the provided transcript.

Real-World Application of LTV Calculations

  • The podcast aims to provide actionable advice for entrepreneurs.
  • Speaker A's company, acquisition.com, uses these methods to evaluate their portfolio companies.
  • The podcast serves as an educational tool for growing businesses.

"Now, as a quick side note, the reason that this is so important, if you don't know who I am, acquisition.com."

Speaker A contextualizes the discussion of LTV by referencing their own experience and the practical application of these methods in their business, acquisition.com.

Understanding LTV (Lifetime Value)

  • LTV is a critical metric for understanding the value of a customer over time.
  • It helps in predicting revenue and making informed business decisions.
  • Knowing LTV allows for better resource allocation, especially in customer acquisition.

"So that is your LTV."

This quote explains that the speaker has just finished calculating the LTV, emphasizing its importance in business analysis.

"That's why LTV is so important. Understand how to calculate it."

Here, the speaker is stressing the importance of understanding and being able to calculate LTV for strategic business planning.

Calculating LTV Using Different Methods

  • LTV can be calculated using lifetime data, churn rate, or sales velocity.
  • Each method has its own advantages and is suitable for different business models.
  • The churn method requires averaging churn over time to get an accurate figure.
  • Sales velocity focuses on the number of new sales per month and is useful when revenue is stable.

"The second way you can do this is off churn, and the third way is off sales velocity."

The speaker is outlining the different methods to calculate LTV, suggesting that there are multiple approaches depending on the business context.

"So you want to average your churn and be like, all right, well, we average 12%, right?"

This quote indicates the need to average churn rates over time to get a more accurate LTV calculation.

Sales Velocity as a Metric

  • Sales velocity is a measure of how quickly a company is acquiring new customers.
  • It is used to estimate LTV when revenue is consistent.
  • This method is useful for businesses at a point of equilibrium between customer loss and gain.

"Sales velocity, this is the third way to calculate this."

The speaker introduces sales velocity as a third method for calculating LTV, highlighting its relevance to the overall business strategy.

"Then I can tell them that the rough estimate for their LTV is going to be ten k."

This quote illustrates the use of sales velocity to estimate LTV, providing a practical example of how it is calculated.

The Importance of LTV for Business Growth

  • A strong LTV indicates potential for business scalability.
  • Companies with higher LTV can afford to spend more on customer acquisition.
  • LTV is crucial for businesses in the $3 to $10 million range to avoid margin compression and enable scaling.

"And so when we're looking at companies, we want to see companies with strong ltbs, or the potential to have strong ltbs, so that in the future we could spend more in the acquisition and scale the business."

The speaker explains the strategic importance of LTV in assessing a company's potential for growth and investment in customer acquisition.

"Their ability to scale."

This quote, while brief, underscores the connection between LTV and a company's ability to grow and scale effectively.

Implications of LTV Knowledge

  • Understanding and calculating LTV can impress stakeholders and enhance self-confidence.
  • Mastery of LTV concepts is a sign of business acumen.
  • Knowledge of LTV can lead to better decision-making and business success.

"And so if you can speak in these terms, you will impress people and more importantly, you will impress yourself, because you'll have"

The speaker concludes by emphasizing the personal and professional benefits of being able to understand and discuss LTV, suggesting it is a valuable skill for entrepreneurs.

Entrepreneurial Toolbox Enhancement

  • The speaker is promoting a new chapter addition to a book to build hype for an upcoming launch.
  • The unreleased chapter discusses customer segmentation and creating customer avatars.
  • The chapter is offered for free in exchange for an email, which allows the speaker to notify interested parties about the new launch.
  • There is a sense of urgency created by mentioning the previous sell-out.

"I added in a lost chapter that has never been released. I'm releasing it now transparently. I'm doing that to build hype for 100 million dollar leads."

This quote indicates the strategic use of previously unreleased content as a marketing tool to generate interest in an upcoming product.

"It talks about your first avatar and how to segment customers to make more money."

The quote gives insight into the content of the unreleased chapter, focusing on customer segmentation and monetization strategies.

"You can get it by going to acquisition.com leads. It's for free in exchange for your email so that I can email you when we launch 100 million dollar leads and so that you cannot miss out on it."

This quote outlines the method of obtaining the chapter and the reciprocal benefit of providing an email address, which is used for direct marketing purposes.

"Because last time I sold out for like eight straight weeks really fast. So that is my way of making sure that you all get first dibs."

The quote creates a sense of scarcity and exclusivity, suggesting that immediate action is beneficial to ensure access to the upcoming launch.

Business Decision Making

  • The speaker admits to not being an Excel expert and learning a simplified approach to business calculations.
  • Major business decisions are often made using rough estimates rather than precise calculations.
  • Understanding the general direction and gut feeling in business is emphasized over exact numbers.

"I'm not an Excel whiz. I had to learn this stuff because I just haven't naturally been that good at it."

The quote reveals the speaker's initial lack of expertise in spreadsheet software and the necessity to learn for business purposes.

"Just about every major business decision I make, I just make it on back of napkin because even the most precise calculations can still be done off of rough data sets."

The quote illustrates the speaker's preference for simplified, rough calculations in making significant business decisions.

Projecting Lifetime Value (LTV)

  • The speaker uses two hypothetical business scenarios to explain how to project LTV.
  • Scenario A and B involve selling to ten customers a month at a $5,000 price point with a 20% churn rate.
  • The speaker demonstrates how to calculate LTV by dividing monthly revenue by churn percentage.
  • The concept of an asymptote in business growth is explained, where a business approaches a maximum revenue point without actually reaching it.
  • It's necessary to adjust price, churn, or new sales to grow beyond the projected maximum revenue.

"If we take the five k per month and we divide it by the 20% turn, we're going to have a 25K LTV, right?"

The quote explains the basic calculation for determining the lifetime value of a customer based on monthly revenue and churn rate.

"This is a back of napkin way that you can do projections."

The quote reinforces the speaker's approach of using simplified methods for business forecasting.

"So it continues towards this asymptote, which means it approaches a number, but it doesn't actually hit it."

The quote explains the concept of an asymptote in the context of business growth, indicating a plateau that can be anticipated but not necessarily reached without change.

"At that point, we'd have to change something to business. We'd have to change the price. We have to change the churn, or we'd have to change the number of new sales that are happening in order to grow this business."

This quote suggests actionable strategies for overcoming the growth plateau identified by the asymptotic projection.

Business Growth Projections

  • The speaker provides insights on how to interpret the growth curve of a business.
  • The growth curve can indicate whether a business is expanding, has the potential to grow, or is on a declining trajectory.
  • Understanding the hypothetical maximum revenue or "cap rate" helps in strategic planning for business growth.

"And so you'll know if you have the capacity to grow, you are on a shrinking curve, or what."

The quote summarizes the importance of understanding the business's position on the growth curve for future planning and decision-making.

Business Growth Strategies

  • Discusses the necessity of changing business strategies to overcome stagnation.
  • Focuses on increasing monthly revenue from $250,000 to $1 million.
  • Identifies three key levers: increasing sales volume, raising prices, and reducing churn.
  • Stresses the importance of choosing the right strategy to ensure business sustainability and growth.

Five k per month, and your churn is 20%, and you're stagnant like this, which means that one of these things must change.

This quote emphasizes that to overcome stagnation in business revenue, changes must be made in either sales volume, pricing, or customer retention.

Impact of Reducing Churn

  • Highlights the significant effect of halving churn from 20% to 10%.
  • Suggests that reducing churn can be more effective than other strategies for business growth.
  • Implies that a lower churn rate can lead to exponential growth, potentially reaching $4 million a month.

If we can fix the churn of this business, let's say we just get it from 20% to 10% churn. Doesn't seem like it's a big difference, does it? It's a hell of a difference.

The quote illustrates that a seemingly small improvement in churn can have a substantial impact on the business's financial health.

Scaling Sales vs. Improving Product/Service

  • Discusses the challenges of quadrupling sales, including the need for more infrastructure and the risk of hiring inadequate staff.
  • Argues for the importance of fixing the product and client experience to reduce churn.
  • Suggests that improving the product leads to increased customer lifetime value (LTV) and allows for more aggressive spending on customer acquisition.

If you forex the sales, you get to 40 a month, right? You're going to build infrastructure. You can do all this other stuff. But the problem is you might have built infrastructure too quickly and the people that you hire suck. And then you can't get the churn down.

This quote discusses the pitfalls of scaling sales too quickly without addressing underlying issues such as product quality and customer satisfaction, which can lead to unsustainable growth.

Strategic Approach to Business Problems

  • Encourages thinking strategically about which lever to pull for the best outcome.
  • Emphasizes the need to create a sellable business with value by improving the product and client experience.
  • Advises on expanding margins and LTV by reducing churn before scaling up sales efforts.

What we want to do is we want to expand the margin, expand the lifetime gross profit per customer by extending the LTV through churn and creating a better experience, better product, better product market match.

The quote conveys the strategy of improving the business from the inside out by enhancing the product and customer experience, which in turn allows for more sustainable and profitable scaling.

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