Assignment 4 Computing Lifetime Value of Customers

Objective: To compute the lifetime value and develop a differential strategy based on LTV Given to us is the following formula. LTV = Where

= the probability of purchase in period t

= the quantity purchased in period t = the margin on purchases in period t = the discount rate , where d = (1+(interest rate*risk factor)) = costs to develop the relationship in period t A = initial acquisition cost N = the number of periods Sample set of customers = 7953 1. New customer Acquisition costs (A) a) Average cot to obtain prospect name = $0.10 b) Average cost to send initial catalogue = $0.75 c) Average response rate = 2.3% A = 7953*

= $36.956

2. Development and Retention costs a) Number of catalogues mailed annually to each acquired customer = 5 b) Cost of mailing a catalogue to a customer = $0.75 3) Average margin on orders ( ) = 42%

4) Annual interest rate = 20% 5) Risk Factor = 1 6) Since the analysis is being done on past data the value of is taken as 1

Calculating

= 11.2148

Now we have to calculate the average lifetime value of the 2 groups of customers Group 1(# of customers with initial purchase < $50) Group 2(# of customers with initial purchase > $50) Calculating < $50 Group orders last year 0 1 2 3 4 5 8 Frequency of year 5 3837 626 141 38 10 3 2 4657 = 1093*53.63*42% = 24619.39 = = $ 9887.31 LTV = = 2.49 # of orders 0 626 282 114 40 15 16 1093

= (9887.31 11.2148 36.956)/4657 = 2.12

Calculating

for the initial purchase of more than $50 group

>$50 group orders last year 0 1 2 3 4 5 6 Frequency of year 5 2673 463 120 30 7 2 1 3296 = 807*78.26*42% = 26525.44 = = 10652.78 LTV = = 2.49 # of orders 0 463 240 60 28 10 6 807

= (10652.78 11.2148 36.956)/3296 = 3.21