How Netflix Measures You to Maximize Their Revenue & How It Can Help Your Business

Are you a Netflix subscriber?

Well if you are, I bet I can guess how long you’ve been a customer…

The Netflix Lifetime Value Case Study

…alright, I know there is no way I can guess how long you’ve been a subscriber, but the odds are you’ll only stay on for 25 months. How do I know that? Based on their lifetime value metric, an average Netflix subscriber stays on board for 25 months. And according to them, the lifetime value of a Netflix customer is $291.25.

The reason that number is important is because it helps Netflix determine how much they can spend on a customer… from overhead to marketing.

Note: Netflix has recently lost subscribers as a result of some poor decisions related to their brand (Qwikster) and their business model. Regardless, we believe that Netflix is a great case study to help you understand the power of customer analytics.

The Importance Of Lifetime Value

If you signed up for Netflix right now, on average you would have to pay $11.65 a month. Over a course of 12 months, you would have spent $139.80.

If you were Netflix, would you be willing to spend $150 on a customer? Assuming that your overhead isn’t too high, paying $150 per customer can actually be very profitable. As I mentioned earlier, the lifetime value of you, as a paying customer, is almost $300… they just don’t get all of the revenue upfront. They get it over a course of 25 months.

Let me explain… at $139.80 in revenue during year 1, Netflix would be losing money. Assuming they paid $150 to get you, they would actually lose $20.2. But because on average a customer stays for 25 months, they still could make money off of you… just not in the short run.

Lesson #1: You shouldn’t be afraid to lose money in the short run, if you can make up the money plus more in the long run. But before you determine if it is worth losing money in the short run, you need to know the lifetime value of your customers. Without that number it’s impossible to optimize your profit.

Maximizing Lifetime Value

Every customer isn’t equal. And in the case of Netflix, this is especially true. Why, you ask? Well some customers won’t stay on board for even a month while others may stay on for 5 years or never even cancel…

There are a lot of reasons that each customer is different… and why some may stay on longer than others. And of course, as a business, Netflix ideally wants every customer to stay as long as possible.

By tracking each and every customer individually, Netflix can optimize their lifetime value. For example, they know that if you don’t continually rent movies, you’ll cancel sooner or later. Because of this they added features like a queue where you can create a list of all the movies you want to watch. So after you are done watching a movie, they keep on sending you more discs because you’ve told them what you want to watch. This is much more efficient then having you login every time after you finish watching one movie and asking Netflix to send you another.

To go one step further they know that customers are impatient and some customers cancel because they don’t like waiting for movies to arrive in the mail. Due to this they’ve added a feature where you can stream movies on the web, which not only satisfies your movie urge, but it keeps you busy while you are waiting.

By tracking these stats and behavior, Netflix has reduced their churn to 4%.

Lesson #2: By tracking the specific events and actions your customers are taking on your website you can determine steps or features that will cause people to engage more. And what you’ll notice is that users that engage more are more likely to be happier customers, which means they’ll pay for your services for a longer duration of time. To maximize your revenue per customer you can’t just track them in one big bucket, but you also have to track each individual customer.

Customer Acquisition

Since Netflix knows their customer lifetime value, and has fine-tuned their product to reduce churn, they can spend a decent amount of money on marketing. For example, they currently pay affiliates $16 for every customer they bring in.

Although that may seem like a small amount, it isn’t. Netflix offers the first month for free to any new customer… which means affiliates are getting paid $16 for every free customer they are driving. Whether a customer stays on board after the free month or cancels, they are getting paid $16.

Of course if a percentage of customers didn’t stay on, they couldn’t keep on offering affiliates $16 per signup. Or even spend $2 for every click from their Google AdWords campaign, but because they know their lifetime value metrics well – they can keep on dumping money into marketing.

Lesson #3: Spending on marketing is a great way to grow your business, but you shouldn’t spend too much money unless you’ve fine-tuned your business model. Knowing the lifetime value of each customer or what causes customers to stay longer than others isn’t enough.

You need to understand the lifetime value of customers who come from different marketing channels. This will help you determine how much you can acquire customers for from each channel, not just based on the first month revenue or first purchase they make, but based on the actual long term revenue potential of customers from each of your marketing channels.

Conclusion

If Netflix didn’t know the lifetime value of their customer, they wouldn’t be as large as they are. Acquiring customers in the video rental space isn’t cheap and in many cases the cost outweighs what the company will make in the first few months, if not an entire year.

But like any smart company, they aren’t afraid to spend money because they know their numbers down to the penny. Now the real question is, do you know your numbers?

If you do, then good job on being diligent and doing your homework! If not (or if you want to make your life easier), fill out the form below to learn how KISSmetrics can help you understand your customer lifetime value.

Photo Credit: Beauty Redefined

About the Author: Neil Patel is the VP of Marketing of KISSmetrics and blogs at Quick Sprout.

  1. Great post Neil, I’m actually working with a new client who has a subscriber based model and this post just resonates!

    To add to your post further, once you have established KPI’s like Lifetime value for individual marketing channels you can…

    1) Invest in tools that help you with tracking the actual sources of new customers. What I mean is things like de-duplication, 1st click or last click attribution?
    Are you intelligently accounting for multichannel conversions?

    2) Like you mentioned, establish a CPA (cost per acquisition) budget for each key channel. Track the actual CPA each channel is producing and spend more or cut the fat as required. This works like magic for channels like Google Adwords where with some simple analytics it’s all done for you.

    3) In additional to marketing channels, you can also segment by demographic like location, gender, age.
    Is the lifetime value of your customers greater with women or men?
    You can use these insights to optimise your marketing. Easy to do with channels like Facebook Ads or Remarketing where segmenting by a certain demographic is easy.

    4) Improve the ROI from your Reactivation campaigns
    Priortise which customer segments are worth sending your most expensive reactivation campaigns.

    This can especially improve ROI if you utilise more expensive activities like direct mail campaigns or personal phone calls.

  2. This is a great start but doesn’t tell us how to compute it.

    What if your business is selling a new product, you are just getting clients, how do you come up with the LTV?

  3. When will KissMetrics integrate with Recurly (<<<— my subscription billing tool)? Dudes(ets) I really cannot wait for this to happen!

  4. Good read, thanks! I may have to look into their affiliate program! :)

  5. Isn’t 150 – 139.80 = 10.20, not 20.2?

    Great read either way.

  6. Seriously, what is so difficult about putting a date on articles? All of the numbers on this article aren’t accurate to the current date (10/31/2012), and I have no idea which date to apply them to.

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