Question

A. Company XYZ experiences a monthly customer churn rate of 2%. It costs the company (i.e. on average) $2000 in sales force support and another $3000 in marketing communications expenditures to acquire a customer. Thereafter, the annual cost of servicing the customer is $3000. Over the lifetime of each customer, sales average $2500 monthly. The company’s gross margin is 40%. What is XYZ’s average Customer Lifetime Value?

B. Company ABC’s annual marketing expenditure budget has averaged $30000 over the past 5 years. Sales revenues have averaged $100,000 annually with a gross margin of 50%. The company is considering the possibility of increasing their marketing budget by 50% in 2014. But they will not do so unless they get a ROMI of 200% on this additional investment. What will total 2014 sales have to be to meet this objective?                                                                                                                                                                                                                                                                                                                                                                                               

Answer 1

A. Average Sales per customer per month=$2500

Average gross margin per customer per month=2500*40%=$1,000

Monthly cost of servicing a customer =$3000/12=$250

Net gain per month per customer=1000-250=$750

Churn rate=2%

Average number of months a customer is retained=100/2=50 months

Lifetime gain per customer=50*$750=$37,500

Initial Customer acquiring cost=2000+3000=$5000

XYZ’s average Customer Lifetime Value=37500-5000=$32,500

B.

Proposed additional marketing investment in 2014=30000*50%=$15,000

Return on Marketing Investment (ROMI)=Increase in Profit/Cost=200%

Cost=$15000

Increase in profit required =200%*15000=$30000

Increase in Profit=Increase in Gross Margin-Cost

30000=Increase in Gross Margin-$15000

Increase in Gross Margin needed=30000+15000=$45,000

Total 2014 sales have to be to meet this objective=45000/0.5=$90,000