Duration of Lifetime Value (LTV)

LTV is simply the net present value of a stream of future cash flows from a customer.  But, the LTV says little about the timing of the revenues and costs.  To borrow a term from finance, a customer’s LTV also has a “duration”.  Duration is the weighted average of the length of time that it takes for the cash flows to arrive.  So, duration is expressed in units of time, and it measures the timing of the payments.

Duration is important because revenues from customers usually come in over time.  Lifetime revenue streams may even be back-loaded, since new services, cross-selling opportunities, and product improvements happen later.  Ongoing per-unit customer-maintenance costs (which are subtracted to get LTV) may also be higher for a new business.  These factors increase the duration of a customer’s LTV.  Here is an example of how two types of customers with the same LTV can have different durations:


Businesses must address the duration of LTV.  When duration is high, entrepreneurs must be sure to keep enough cash on hand, and more importantly, they need to find ways to accelerate cash flows and shorten the duration.

David Skok recommends that subscription businesses aim to recover CAC in a year or less.  While not explicitly saying it, he is talking about duration.  The timing of the cash flows should be early enough to cover costs in a reasonable period of time.

 

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