How to Calculate Customer Lifetime Value (LTV): Formula & Guide

Customer Lifetime Value represents the total revenue a customer generates over their entire relationship with your company. Understanding LTV is essential for making informed decisions about acquisition spending, customer success investments, and overall business strategy.

Why LTV Matters

LTV helps you answer critical business questions:

How much can you spend to acquire a customer? Your LTV sets the ceiling for acquisition costs.
Which customer segments are most valuable? LTV analysis reveals where to focus resources.
Is your business sustainable? Healthy LTV metrics indicate long-term viability.
How should you prioritize retention vs. acquisition? LTV calculations inform resource allocation.

LTV Formulas

Basic Formula

For straightforward calculations:

LTV = Average Customer Revenue per Year x Average Customer Lifespan

Advanced Formula

For more accurate SaaS and subscription businesses:

LTV = (Annual Revenue Per Customer x Gross Margin %) / Monthly Churn Rate

Example Calculation

Consider a SaaS company with:

Annual Revenue Per Customer: $12,000
Gross Margin: 70%
Monthly Churn Rate: 5%

LTV = ($12,000 x 0.70) / 0.05 = $168,000

Four-Step Calculation Process

Step 1: Calculate ARPU (Average Revenue Per User)

Divide total revenue by customer count to get your baseline revenue metric.

ARPU = Total Revenue / Number of Customers

Step 2: Determine Gross Margin

Calculate the percentage of revenue remaining after direct costs.

Gross Margin = (Revenue - Cost of Goods Sold) / Revenue

Step 3: Measure Churn Rate

Track customers lost divided by starting customers over a period.

Monthly Churn = Customers Lost This Month / Customers at Start of Month

Step 4: Apply the LTV Formula

Combine these metrics using the advanced formula for your final LTV calculation.

LTV by Business Model

SaaS Companies

Focus on:

Monthly/annual subscription rates
Expansion revenue from upsells
Churn and retention patterns

E-commerce Businesses

Emphasize:

Purchase frequency
Average order value
Customer lifespan across purchases

Marketplace Models

Consider:

Transaction volume
Commission rates
Buyer and seller retention

Key Financial Metrics

LTV:CAC Ratio

This ratio indicates business health by comparing customer value to acquisition cost.

LTV:CAC Ratio = Customer Lifetime Value / Customer Acquisition Cost

Benchmarks:

Below 1:1 - Unsustainable, losing money on each customer
1:1 to 3:1 - Needs improvement
3:1 or higher - Healthy, sustainable business
Above 5:1 - May be under-investing in growth

Payback Period

Measures how quickly you recover customer acquisition costs.

Payback Period = CAC / (Monthly Revenue per Customer x Gross Margin)

Target: 12 months or less for most SaaS businesses.

Strategies to Improve LTV

Reduce Churn

Improve onboarding experiences
Proactive customer success outreach
Regular value delivery and communication
Address issues before customers leave

Increase ARPU

Develop upsell and cross-sell opportunities
Introduce premium tiers
Add complementary products or features
Implement value-based pricing

Improve Gross Margins

Optimize operational efficiency
Reduce cost of service delivery
Automate customer support
Negotiate better vendor terms

Expand Product Offerings

Build features that increase engagement
Create add-on products
Develop ecosystem integrations
Launch complementary services

Minimize Refund Rates

Set accurate expectations during sales
Ensure product quality
Provide excellent support
Address issues quickly

Tracking LTV Over Time

Monitor LTV trends by:

Customer segment
Acquisition channel
Time period (cohort analysis)
Product line

This analysis reveals which investments generate the highest-value customers and where to focus future efforts.

Conclusion

Customer Lifetime Value is one of the most important metrics for understanding business sustainability and making smart investment decisions. Calculate it accurately, track it consistently, and use it to guide strategy across marketing, sales, and customer success.