The Customer Lifetime Value Concept and Its Contribution to Corporate Valuation

The shareholder value and the customer lifetime value approach are conceptually and methodically analogous. Both concepts calculate the value of a particular decision unit by discounting the forecasted net cash flows by the risk-adjusted cost of capital. However, virtually no scholarly attention has been devoted to the question if any of the components of the shareholder value could be determined in a more marketoriented way using individual customer lifetime values. Therefore, the main objective of this paper is to systematically explore the contribution of both concepts to the field of corporate valuation. At first we present a comprehensive calculation method for estimating both the individual lifetime value of a customer and the customer equity. After a critical examination of the shareholder value concept, a synthesis of both value approaches allowing for a disaggregated and more realistic corporate valuation will be presented. CUSTOMER-BASED CORPORATE VALUATION Bauer Hammerschmidt Braehler 48 1. The Significance of the Customer in Corporate Valuation In recent years, the proliferation of value-based management has led to an increasing demand for corporate valuation methods. This development is rooted in external factors, namely in the capital market’s requirements. The fulfillment of the need to effectively assess companies is particularly important at a time when a strongly mergerdriven economy with a growing monetary transaction volume fosters the danger of false evaluation and misinterpretation. However, internal reasons also play a major role in this context, such as the support of efficient resource allocation, which requires the measurement of the value contribution of functions or business units (Srivastava/ Shervani/Fahey 2000, pp.168 f.; Blattberg/Deighton 1996, pp. 136–144). These days, market orientation does not represent a company’s key success factor, market value orientation does. In this context, market value orientation is usually interpreted as capital market orientation; for this reason, the concept of shareholder value is frequently employed. Resulting from the financial origins of the shareholder value concept as a predominant evaluation method, marketing as a likewise value-creating area has long been neglected. It is an accepted fact that the field of marketing and – within this broad area – the field of sales represents the crucial company-customer interface, the customer being the most valuable resource of the company (Srivastava/Shervani/ Fahey 1999, p. 169). It is the customer who creates value – all preceding stages only produce costs. Creation of value solely emerges from economic exchange in business relations. Against this background, it appears sensible to consider the concept of customer value with regard to tactical decisions and, more importantly, as a strategic metric to assess the overall value of a firm, for example in the context of mergers and acquisitions. The concept of customer value represents the link between the customer as the external factor with regard to a company’s revenue and the internal processes representing the costs of a company. Thus, it serves as a useful tool in determining the free cash flow in a more market-oriented way by disaggregating the sales market into different partial profit streams yielded by the customers. Consequently, if corporate valuation is based on the single value-enhancing customer activities (up selling, cross selling, referrals etc.) and the marketing costs incurred to induce these effects, a more realistic and precise determination of the free cash flow is assured. We suggest that long-term values of customers are more stable and relevant metrics of firm value than market capitalization or price-earnings-ratios. The latter are difficult to utilize when a company has negative earnings, as is typical in the early periods of internet-based businesses for example (Gupta/Lehmann/Stuart 2001, p. 3). Yearbook of Marketing and Consumer Research, Vol.1 (2003) GfK