Net-4-You is an internet service provider that charges its 1 million customers $19.95 per month for its service. The company's variable cost are $0.50 per customer per month. In addition, the company spends $0.50 per month per customer, or $6 million annually, on a customer loyalty program designed to retain customers. As a result, the company's monthly customer retention rate was 78.8 percent. Net-4-You has a monthly discount rate of 1 percent.
a.) What is the customer lifetime value?
b.) Suppose the company wanted to increase its customers' monthly retention rate and decided to spend an additional $0.20 per month per customer to upgrade its loyalty program benefits. By how much must Net-4-You increase it's monthly customer retention rate so as not to reduce customer lifetime value resulting from a lower customer margin?
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a.) To calculate the customer lifetime value (CLTV), we need to consider the revenue generated by a customer over their lifetime, minus the costs associated with serving and retaining that customer.
First, let's calculate the monthly customer margin. The monthly customer margin is the difference between the monthly revenue per customer and the variable cost per customer. In this case, the monthly revenue per customer is $19.95 per month, and the variable cost per customer is $0.50 per month.
Monthly customer margin = Revenue per customer - Variable cost per customer
= $19.95 - $0.50
= $19.45
Next, we need to calculate the monthly customer retention rate. In this case, the monthly customer retention rate is given as 78.8 percent, which is equivalent to 0.788.
Now, let's calculate the discount rate. The discount rate is given as 1 percent, which is equivalent to 0.01.
Using the formula for CLTV, we can calculate it as follows:
CLTV = Monthly customer margin / (1 + Discount rate - Monthly customer retention rate)
= $19.45 / (1 + 0.01 - 0.788)
= $19.45 / 0.222
≈ $87.61
Therefore, the customer lifetime value for Net-4-You is approximately $87.61.
b.) To determine how much Net-4-You must increase its monthly customer retention rate, we need to consider the additional cost incurred for upgrading the loyalty program benefits.
The additional cost per month per customer for upgrading the loyalty program benefits is $0.20.
We want to maintain the same customer lifetime value without reducing the customer margin. Since the customer margin is the difference between the revenue per customer and the variable cost per customer, any increase in costs must be offset by an increase in revenue or a decrease in the variable cost.
Let's denote the increase in the monthly customer retention rate as 'x'. The new monthly customer retention rate would be the initial retention rate (0.788) plus 'x'.
The new monthly customer margin would be the initial monthly customer margin ($19.45) minus the additional cost per month per customer for upgrading the loyalty program benefits ($0.20).
Setting the new monthly customer margin equal to the initial monthly customer margin, we can calculate 'x' as follows:
New monthly customer margin = Initial monthly customer margin
$19.45 - $0.20 = $19.45
To find 'x', solve the following equation:
New monthly customer margin = Monthly customer margin / (1 + Discount rate - New monthly customer retention rate)
$19.45 = $19.45 / (1 + 0.01 - (0.788 + x))
Simplifying the equation:
1 + 0.01 - (0.788 + x) = 1
0.01 - 0.788 - x = 0
-0.778 - x = 0
x = -0.778
Therefore, Net-4-You would need to increase its monthly customer retention rate by approximately 0.778 (or 77.8%) to maintain the same customer lifetime value without reducing the customer margin when increasing the loyalty program benefits by $0.20 per month per customer.