Originally published on August 5, 2022
SaaS LTV, or Software-as-a-Service lifetime value, is a metric that tells you how much money a customer has spent on your SaaS product during their entire time being with your company. It’s an insightful metric for understanding which users provide the most value to your business, and is particularly useful if you’re investing in product-led growth. SaaS LTV is easy to calculate using a variety of formulas.
- LTV is the cumulative total of all revenue a customer contributes to your business over their entire lifetime of using your SaaS product or service. The higher the LTV, the higher the value of that customer to your business.
- There are a few different methods to calculate SaaS LTV:
- Add up all the revenue from the customer over their lifetime with the company.
- Divide the average revenue per customer by the churn rate.
- Multiply the average revenue per customer by the gross margin percentage and then divide the result by the revenue churn rate.
- Create a SaaS LTV chart in a product analytics tool like Amplitude to easily find and share LTV in a few clicks.
- The LTV to CAC ratio should be 3:1. If it’s higher, then you’re underspending on marketing, and if it’s lower, then you’re probably not able to retain your customers over a long time, or you’re spending too much on customer acquisition.
- It’s possible to increase the LTV for SaaS businesses by understanding customers with a high LTV, analyzing LTV by customer cohorts, taking steps to reduce customer churn, and boosting the average revenue per customer.
LTV in SaaS companies
Lifetime value (LTV), or Customer Lifetime Value (CLV), is the total amount of money a customer spends on your SaaS product or service during the customer’s entire relationship with your business.
If the customer spends $500 a month on your SaaS product and stays with your business for a period of 12 months before moving on to another product, the customer’s lifetime value would be $500 * 12 = $6,000.
SaaS LTV tells you what the entire customer relationship is worth to your business. The longer a customer stays with your business, the higher the LTV and, therefore, the higher the worth of that relationship to your business. A high LTV contributes to a SaaS company’s profitability since it’s nearly impossible to recover the investment SaaS companies make in acquiring new customers simply from a one-time purchase by the customer.
By calculating SaaS LTV, you’ll be able to figure out which customer relationships have the highest LTV and you should focus on retaining. Maybe customers with low profit margins stay longer and generate more revenue over time, while those with high profit margins don’t stick around very long and are not lucrative to your business over time.
If a company can retain even 5% of its customers, it can increase its profits by 25-95%. Put simply: the longer you can retain customers and the more money they pay you per subscription, the higher your SaaS LTV.
How to calculate LTV for SaaS
There are a few different ways of calculating LTV for SaaS businesses:
Method 1
LTV = Average Revenue Per Customer * Customer Lifetime. If a customer spends $50 a month, on average, on your SaaS product over their entire relationship with your business, which lasts 6 months, then the LTV is $50 * 6 months = $300.
Method 2
LTV = Average Revenue Per Customer / Churn Rate. Churn rate is the number of subscribers who canceled their subscription during a specific period of time. For example, if you had 200 subscribers in the previous year and lost 10, the churn rate is 5%. The higher the customer churn rate is, the lower the lifetime value will be. If the average revenue per customer is $50, and the churn rate is 5%, then the LTV is $50 / 0.05 = $1,000.
Method 3
LTV = (Average Revenue Per Customer * Gross Margin %) / Revenue Churn Rate. The variables in this equation are:
- Average revenue per customer = MRR (Monthly Recurring Revenue) / Total Number of Accounts
- Gross Margin = Total Revenue – Cost of Goods
- Revenue Churn Rate = (Revenue Lost in a Specific Period – Upsells in that Specific Period) / Revenue at the Beginning of the Period.
This formula helps you see the LTV in gross profit terms, not in revenue terms. If the average revenue per customer is $50, the gross margin is 10%, and the revenue churn rate is 5%, the LTV would be ($50 * 0.10) / 0.05 = $100.
Method 4
Create a SaaS LTV chart in a product analytics tool like Amplitude Analytics. Using Amplitude’s Revenue LTV chart, you can easily find SaaS LTV, identify trends, and share insights with your team. For example, the chart below shows that day 30 LTV was $1,883, and there was a large dip in LTV around day 52 before spiking up again at the end of the 60-day period.
Investigate your SaaS LTV by getting started with Amplitude for free, or explore this demo data in our self-service demo experience.
If you’re a small SaaS business, we recommend using Method 1 as an easy way to calculate LTV. As you grow and have the resources to gather more data, you could switch to more complex calculations (Method 2 and Method 3) to get a more accurate view of your LTV. Or use Method 4 for the simplest way to calculate SaaS LTV for small and large businesses alike.
SaaS LTV to CAC ratio
CAC stands for customer acquisition cost and measures how much you spent to acquire a new customer for your SaaS business. The LTV:CAC ratio measures the relationship between the lifetime value of a customer and the cost of acquiring that customer. If your SaaS LTV is high and your CAC is low, your company will be more profitable. For example, if your CAC is $100, and the same customer’s LTV is $1,000, you’re essentially profiting $900 from that customer.
The LTV to CAC ratio, as a benchmark, should be at least 3:1. If it isn’t above 3, you’re spending way too much on customer acquisition, or you’re unable to retain your customers over time. On the other hand, if your ratio is too high, like above 5:1, it is likely you are under-spending on marketing and limiting growth.
To calculate CAC, the formula isTotal Amount of Marketing and Sales Expenses / Number of Customers Acquired in a Given Period. If you spent $20,000 on marketing and sales and acquired 500 customers over a 2-year period, your CAC is $40.
You should use the LTV:CAC ratio for making SaaS business decisions like:
- Which type of customer is the most profitable to acquire?
- How much should I invest to acquire a given type of customer?
- How many sales reps should I hire to acquire customers?
Improving SaaS LTV after the initial calculation
Just knowing the SaaS LTV isn’t enough. You need to take steps to improve the LTV to boost the profitability of your SaaS product. To improve the SaaS LTV, here are a few things you can do:
Understand high LTV customers through interviews and analytics
Identify customers with a high SaaS LTV since they are the ones who have likely been with your business for a long time. Interview customers to ask questions like why they’ve stayed so long and what would make them want to continue using your product. Use a product analytics tool to find answers around what features of your product are used the most and your best marketing channels to connect with high LTV customers.
Watch this video to learn how to measure your SaaS product’s best features:
Analyze LTV by customer cohorts
By breaking down your customers into cohorts or segments, you can use SaaS cohort analysis to figure out where and how to optimize your efforts. For example, you might figure out that customers using macOS are more likely to continue using your product over long periods of time since your product might be more compatible with macOS than Windows. This provides you with the insight to focus on customers that use MacOS.
You can also use behavioral cohorts to analyze groups of customers based on the behaviors they take in your SaaS product. For example, the Amplitude chart below compares LTV in a B2B SaaS messaging app for users who joined a channel and those who did not. You can see that those who join a channel have higher SaaS LTV, so it might benefit your business to surface the join channel feature during onboarding.
Users who joined a channel (green) have higher SaaS LTV than those who did not (purple). Try creating this chart yourself in our self-service demo.
Take steps to reduce customer churn
Increasing LTV means extending the life of the customer, which can only happen by reducing churn. You can reduce churn by rewarding customer loyalty, offering top-tier customer support, and enabling customers with educational resources and trainings. Helping customers become proficient users of your SaaS product will keep them engaged and retained.
You can also calculate customer churn and investigate why customers cancel their subscriptions. Once you have a hypothesis, you can A/B test it and take steps to prevent further churn. In the meantime, continue listening to your customers and serving their needs.
Watch this video to learn how to calculate churn for your SaaS business:
Boost the average revenue per customer
Increasing LTV is about increasing the amount of money customers spend on your product over their lifetime. You can do this either by increasing periodically exploring your pricing structure and testing what price your users are willing to pay for your SaaS product. You can also grow the amount of revenue existing customers contribute to your business by upselling, cross-selling products, or upgrading existing customers to a higher pricing plan.
Find out the LTV for your SaaS business today by getting started with a free Amplitude account.
References
- Customer Retention Statistics and Facts for 2020. SaaS Scout
- How to Calculate the LTV:CAC Ratio for Your SaaS Business. Medium
- How to Calculate Customer Lifetime Value for SaaS Businesses. Bay Leaf Digital
- SaaS LTV (Customer Lifetime Value) Guide: Running a Health Check on Your SaaS Business. Incredo
- What is LTV:CAC Ratio? Geckoboard
