June 27, 2016

A Reader Question About Average Order Value

One of our readers asked the following question:
  • Would you be able to expand more on the importance of building high value orders and customers in the future and experience with numbers around that?

Average Order Value. 

I am not a fan of AOV. Building AOV is what so many folks do when they are out of ideas to attract customers. It is very hard to build a business by growing the number of orders by 10%. It is not terribly hard to grow the size of every order by 10%.

Most folks "cheat" when it comes to AOV. Instead of finding adjacent products that cause the customer to purchase four items instead of three items (hard work), marketers give 10% off or free shipping or any number of gimmicks. Cross-sells via a poor call center employee who earns $9 per hour and gets no credit for generating millions in additional sales. Pop ups and offers and endless customer interruptions. This stuff is easy to do, and who cares if the customer is annoyed, right?

In terms of customer value, I learned a valuable lesson when I worked at Eddie Bauer, some twenty-odd years ago. Our SVP always said "items = customers". In other words, he wanted a $100 order comprised of three items instead of a $110 order comprised of one item. When I modeled this dynamic, I found out he was right. Long-term value is maximized by 3 items yielding $100 ... that's a better outcome that one item at $110. Merchants too often jack-up the price of new items in an effort to boost AOV, then yield an undesirable long-term outcome when the number of items purchased per order declines.

You always want to manage a business with 1,000,000 twelve-month buyers spending $200 than a business with 500,000 twelve-month buyers spending $400. Why? Well, customer spend and/or average order value has a tendency to regress to the mean. In other words, a customer with a $500 AOV will regress back toward $100 ... similarly, the customer with a $50 AOV will regress toward $100 as well.

So go get yourself customers. Do not waste time chasing average order value. Yes, you can grow your business in the short-term via AOV, and potentially dilute profitability via discounts/promotions in the process. But regression to the mean will hurt you in the long-term. Go find more customers who purchase more units. That's where all of the long-term profit resides.