Home Alarm is a major alarm security services company in the California area. The company had grown rapidly over the last 10 years and now had more than 80,000 residential and commercial customers. Home Alarm offered customers a complete range of security solutions, including intrusion detection, fire detection, access control, and video surveillance. Kevin, a seasoned customer relationship manager from the telecommunication industry, recently arrived as a new manager to Home Alarm. He was reviewing the firm’s data to identify the major factors that seemed to be driving customer churn at Home Alarm. One finding had sparked his interest—consumers who signed up for Auto Pay were less likely to cancel their service than consumers who received monthly statement and paid by check (Non-Auto Pay). The implication was clear to Kevin: perhaps new residential customers should be strongly encouraged to sign up for Auto Pay. Kevin wanted to know: how much more profitable is a customer on Auto Pay than one who does not use Auto Pay? The answer to this question seemed key to Kevin because it would tell him how much he could spend on salesperson and customer incentives in order to encourage new customers to sign up for Auto Pay. Kevin knew he had to calculate the added value of customer with Auto Pay. Since the effect of Auto Pay was to retain customers longer, any difference in the value of the customers would only become apparent over time. Clearly, the right approach was to calculate the lifetime value of a typical new customer (LTV) with and without Auto Pay. To tackle this issue, Kevin asked the data manager at Home Alarm for the following information: What is the average annual revenue generated by customers? What is the projected subscription rate increase going forward? What is the estimate of the churn rates by customers with and without Auto Pay during their first to eighth years after signing up for service with Home Alarm? What is the typical service cost (e.g., repair) and marketing cost (e.g., mailing)? What is the initial device installation cost, and how much do customers pay for this? After several hours, the data manager provided Kevin with the following details: Customers pay $40 as monthly recurring payments. That sums up to $480 (=12*40) as an annual rate (i.e., average annual revenue). Historically, annual subscription rate typically increased by 3%. That is, revenue from each customer could be assumed to increase by 3% due to general rate increases. Estimates on the historical churn (attrition) rate were as follows: Years of Service 1 2 3 4 5 6 7 8 Non-AutoPay 13.2% 17.2% 16.4% 14.4% 13.0% 12.1% 10.6% 9.6% AutoPay 9.0% 11.7% 12.3% 11.5% 9.8% 8.9% 7.9% 7.3% Service cost was about 15% of the revenue generated in a given year Marketing cost was about 5% of the revenue generated in a given year Device installation price paid by the new customer was about $195 Device installation cost was about $392 Kevin made some additional assumptions for his calculations: Use average annual revenue in the LTV calculation (rather than monthly). Assume the cashflows for the annual revenue are recognized at the end of the year The first year of average annual revenue in the LTV calculation would be 480. From year 2 and going forward, Kevin would incorporate the annual subscription growth rate Use 10% annual discount rate to calculate the present value Installation price and cost would be recognized at the moment a new customer signs up Questions: What is the LTV of a new customer looking out 8 years who will use Auto Pay option? What is the LTV of a new customer looking out 8 years who will NOT use Auto Pay option? What is the maximum amount that Home Alarm could spend as incentives to convert new customer from Non-Auto Pay to Auto Pay?

Home Alarm is a major alarm security services company in the California area. The company had grown rapidly over the last 10 years and now had more than 80,000 residential and commercial customers. Home Alarm offered customers a complete range of security solutions, including intrusion detection, fire detection, access control, and video surveillance. Kevin, a seasoned customer relationship manager from the telecommunication industry, recently arrived as a new manager to Home Alarm. He was reviewing the firm’s data to identify the major factors that seemed to be driving customer churn at Home Alarm. One finding had sparked his interest—consumers who signed up for Auto Pay were less likely to cancel their service than consumers who received monthly statement and paid by check (Non-Auto Pay). The implication was clear to Kevin: perhaps new residential customers should be strongly encouraged to sign up for Auto Pay. Kevin wanted to know: how much more profitable is a customer on Auto Pay than one who does not use Auto Pay? The answer to this question seemed key to Kevin because it would tell him how much he could spend on salesperson and customer incentives in order to encourage new customers to sign up for Auto Pay. Kevin knew he had to calculate the added value of customer with Auto Pay. Since the effect of Auto Pay was to retain customers longer, any difference in the value of the customers would only become apparent over time. Clearly, the right approach was to calculate the lifetime value of a typical new customer (LTV) with and without Auto Pay. To tackle this issue, Kevin asked the data manager at Home Alarm for the following information: What is the average annual revenue generated by customers? What is the projected subscription rate increase going forward? What is the estimate of the churn rates by customers with and without Auto Pay during their first to eighth years after signing up for service with Home Alarm? What is the typical service cost (e.g., repair) and marketing cost (e.g., mailing)? What is the initial device installation cost, and how much do customers pay for this? After several hours, the data manager provided Kevin with the following details: Customers pay $40 as monthly recurring payments. That sums up to $480 (=12*40) as an annual rate (i.e., average annual revenue). Historically, annual subscription rate typically increased by 3%. That is, revenue from each customer could be assumed to increase by 3% due to general rate increases. Estimates on the historical churn (attrition) rate were as follows: Years of Service 1 2 3 4 5 6 7 8 Non-AutoPay 13.2% 17.2% 16.4% 14.4% 13.0% 12.1% 10.6% 9.6% AutoPay 9.0% 11.7% 12.3% 11.5% 9.8% 8.9% 7.9% 7.3% Service cost was about 15% of the revenue generated in a given year Marketing cost was about 5% of the revenue generated in a given year Device installation price paid by the new customer was about $195 Device installation cost was about $392 Kevin made some additional assumptions for his calculations: Use average annual revenue in the LTV calculation (rather than monthly). Assume the cashflows for the annual revenue are recognized at the end of the year The first year of average annual revenue in the LTV calculation would be 480. From year 2 and going forward, Kevin would incorporate the annual subscription growth rate Use 10% annual discount rate to calculate the present value Installation price and cost would be recognized at the moment a new customer signs up Questions: What is the LTV of a new customer looking out 8 years who will use Auto Pay option? What is the LTV of a new customer looking out 8 years who will NOT use Auto Pay option? What is the maximum amount that Home Alarm could spend as incentives to convert new customer from Non-Auto Pay to Auto Pay?

Principles Of Marketing

17th Edition

ISBN:9780134492513

Author:Kotler, Philip, Armstrong, Gary (gary M.)

Publisher:Kotler, Philip, Armstrong, Gary (gary M.)

Chapter1: Marketing: Creating Customer Value And Engagement

Section: Chapter Questions

Problem 1.1DQ

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Question

Kevin, a seasoned customer relationship manager from the telecommunication industry, recently arrived as a new manager to Home Alarm. He was reviewing the firm’s data to identify the major factors that seemed to be driving customer churn at Home Alarm. One finding had sparked his interest—consumers who signed up for Auto Pay were less likely to cancel their service than consumers who received monthly statement and paid by check (Non-Auto Pay). The implication was clear to Kevin: perhaps new residential customers should be strongly encouraged to sign up for Auto Pay.

Kevin wanted to know: how much more profitable is a customer on Auto Pay than one who does not use Auto Pay? The answer to this question seemed key to Kevin because it would tell him how much he could spend on salesperson and customer incentives in order to encourage new customers to sign up for Auto Pay.

Kevin knew he had to calculate the added value of customer with Auto Pay. Since the effect of Auto Pay was to retain customers longer, any difference in the value of the customers would only become apparent over time. Clearly, the right approach was to calculate the lifetime value of a typical new customer (LTV) with and without Auto Pay.

To tackle this issue, Kevin asked the data manager at Home Alarm for the following information:

What is the average annual revenue generated by customers?
What is the projected subscription rate increase going forward?
What is the estimate of the churn rates by customers with and without Auto Pay during their first to eighth years after signing up for service with Home Alarm?
What is the typical service cost (e.g., repair) and marketing cost (e.g., mailing)?
What is the initial device installation cost, and how much do customers pay for this?

After several hours, the data manager provided Kevin with the following details:

Customers pay $40 as monthly recurring payments. That sums up to $480 (=12*40) as an annual rate (i.e., average annual revenue).
Historically, annual subscription rate typically increased by 3%. That is, revenue from each customer could be assumed to increase by 3% due to general rate increases.
Estimates on the historical churn (attrition) rate were as follows:

Years of Service	1	2	3	4	5	6	7	8
Non-AutoPay	13.2%	17.2%	16.4%	14.4%	13.0%	12.1%	10.6%	9.6%
AutoPay	9.0%	11.7%	12.3%	11.5%	9.8%	8.9%	7.9%	7.3%

Service cost was about 15% of the revenue generated in a given year
Marketing cost was about 5% of the revenue generated in a given year
Device installation price paid by the new customer was about $195
Device installation cost was about $392

Kevin made some additional assumptions for his calculations:

Use average annual revenue in the LTV calculation (rather than monthly). Assume the cashflows for the annual revenue are recognized at the end of the year
The first year of average annual revenue in the LTV calculation would be 480. From year 2 and going forward, Kevin would incorporate the annual subscription growth rate
Use 10% annual discount rate to calculate the present value
Installation price and cost would be recognized at the moment a new customer signs up

Questions:

What is the LTV of a new customer looking out 8 years who will use Auto Pay option?
What is the LTV of a new customer looking out 8 years who will NOT use Auto Pay option?
What is the maximum amount that Home Alarm could spend as incentives to convert new customer from Non-Auto Pay to Auto Pay?

Assumptions
Revenue growth
Service cost (% of revenue)
Marketing cost (% of revenue)
Discount rate
Non-Auto Pay
Revenue
Service cost
Marketing cost
Installation cost
Customer profit
Churn (Attrition) Rate
Prob of being active at the end of period
AVG prob of being active during the period
Profit Expected on Average
Present Value of Expected Profits
Customer Lifetime Value (LTV)
Auto Pay
Revenue
Service cost
Marketing cost
Installation cost
Customer profit
Churn (Attrition) Rate
Prob of being active at the end of period
AVG prob of being active during the period
Profit Expected on Average
Present Value of Expected Profits
Customer Lifetime Value (LTV)
3%
15%
5%
10%
0
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1
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8
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