You’ve got another new customer – congratulations!
But what if your company is spending a ton of money to acquire these customers. What if it ends up waiting years to see a profit on the work you do?
Enter the CAC Payback Period metric. CAC Payback is a key stat that fractional CMOs like to calculate regularly to make sure their work is realizing a positive return.
Customer Acquisition Cost (CAC) Payback Period is the time it takes for a company to recover the cost of acquiring a new customer through the revenue generated from that customer.
A short CAC Payback Period is always best: that means a quicker return on investment. Signing on a new customer should be a big gain for any business! However, if they cut and run during the CAC Payback Period, you’ve lost money.
Not every business is the same, so a particular CAC Payback Period that is acceptable to one company could be disastrous for another.
The CAC Payback Period Formula:
To calculate CAC Payback period, use the following formula:
Customer Acquisition Cost (CAC) Payback Period DEFINED v1
CAC Payback = CAC / Monthly Gross Margin (MGM) per Customer
Another common and more detailed formula for CAC Payback is:
Customer Acquisition Cost (CAC) Payback Period DEFINED v2
CAC Payback = CAC / (MRR – ACS)
Yet another common formula for CAC Payback we see is:
Customer Acquisition Cost (CAC) Payback Period DEFINED v3
CAC Payback = CAC / (ARPA – Gross Margin %)
Regardless of which formula you use, when you calculate CAC Payback Period, you’ll need to understand the following numbers:
- Customer Acquisition Cost or Cost to Acquire a Customer (CAC): To calculate CAC, add up all costs involved in acquiring a new customer and divide it by the number of customers gained over a specific period. You can also compute it for a vertical, a salesperson, or a specific customer. Remember, this doesn’t mean just adding up the media costs! Consider all marketing expenses, sales team costs, event costs, webinar costs, software and SaaS, meals, perks, advertising costs, and any other expenses directly related to customer acquisition. It is important to show every bit of the people, campaign and systems costs in this figure to get it accurate.
- Monthly Gross Margin (MGM) per Customer: How much does your average customer give you in profitable revenue per month, once cost to service the customer has been removed? The gross margin per customer represents profit generated from each customer per month. To calculate, find the difference between the revenue generated from the customer and the host of costs associated with delivering the product or service. Hopefully this is a positive number!
- Average Cost to Service: ACS accounts for all the expenses incurred in current customer cost structure. To calculate, divide the overall costs by the number of customers gained over a specific time period. Note this can be a very widely varying number, depending on the kind of customer and what they have purchased from you. It is wise to break down ACS by customer category or product set to make sure your profitable services aren’t paying for others that just don’t make financial sense in the long term.
- Average Revenue Per Account (ARPA) or Average Revenue Per Unit (ARPU): ARPA measures the average revenue generated per customer or account over a specific period. To calculate, divide total revenue over a given period by the total number of accounts or users. ARPA is often calculated on a monthly or annual basis. It’s an important indicator of financial performance and the effectiveness of pricing and revenue strategies.
Some CFOs like to think of marketing and sales costs as being similar to corporate debt. You are receiving capital and paying “interest” in the form of opportunity cost that could have been used to make new products or pay researchers rather than run ads for existing offers.
How do I calculate CAC Payback Period?
It is simple to calculate CAC Payback with the formula shown above.
Here’s an example of how to calculate the CAC Payback Period using a fictional company in Boise, Idaho called GoodCompany. GoodCompany makes fitted parts used by robotics manufacturers in some of their most sophisticated and expensive automated robots.
Here’s the facts for the third quarter:
- GoodCompany had five digital advertising campaigns running:
- $7,000 spent on Facebook/Instagram
- $3,000 spent on LinkedIn
- $8,000 spent on Google Ads
- $2,000 spent on TikTok Ads
- $10,000 spent on programmatic ads and retargeting
- GoodCompany sponsored 3 events at $10,000 each to meet customers face to face in targeted sponsor environments
- GoodCompany received attributable customer conversions from:
- 3 from Facebook/Instagram
- 5 from LinkedIn
- 2 from Google Ads
- 1 from TikTok Ads
- 4 from programmatic ads
- GoodCompany totaled the people cost associated with this work: salespeople, marketing staff campaign work, developers for websites and landing pages, hired staffers for events, etc
- $85,000 in total people costs
- GoodCompany added up all the other expenses for operations and tech: software (SaaS) like CRM and email software, domains, food, lighting, booth decoration, etc
- $25,000 in expenses for marketing and sales operations
As a result, GoodCompany landed 15 new clients. Congratulations to GoodCompany! But, let’s just check and make sure these won’t end up taking forever to make a profit on.
GoodCompany’s CFO just Slacked over the Monthly Gross Margin supplied by the new customers:
- Four clients supply $3,000 in monthly gross margin
- Two clients supply $1,500 in monthly gross margin
- Nine clients supply $1,000 in monthly gross margin
Let’s add up these results and see what we get:
Total Acquisition Cost
$30,000 + $40,000 + $85,000 + $25,000 = $180,000
Monthly Average Acquisition Spend
$180,000 / 3 = $60,000
Average Acquisition Cost per Customer
$180,000 / 15 = $12,000
Monthly Gross Margin
($3,000 x 4) + ($1,500 x 2) + ($1,000 x 9) = $24,000
Monthly Gross Margin per Customer
($24,000 / 15) = $1,600
Overall CAC Payback Period
($12,000 / $1,600) = 7.5 months
Based on these CAC Payback Period calculations, GoodCompany is probably in a healthy position as long as clients are signing 1-3 year contracts.
What Is A Good CAC Payback Period?
For the average company, a general benchmark for startups to first shoot for is a CAC Payback Period of 12 months or less. A fractional CMO will typically calculate a benchmark figure, regardless of the current state of affairs, and work from there to improve on it as is possible.
High performing SaaS companies can have an average CAC payback period of 5-7 months, but this is the gold standard. Any SaaS company with this kind of short payback period will be exciting and interesting to investors, who like a dependable, short return on capital.
Larger enterprises often have longer CAC Payback Periods since they have greater access to capital to deploy. Contracts might span 5-10 years or more. For companies of this size, several years might be involved before a profit is achieved.
Bessemer Venture Partners like to look at CAC Payback Period using the previous quarter’s data and ARR size. The smaller the company’s revenue, the shorter the CAC Payback they see. According to Bessemer’s long term estimations, these are common results:
Average CAC Payback by ARR Scale:
$1-10MM ARR: 15 months
$10-25MM ARR: 24 months
$25-50MM ARR: 20 months
$50-100MM ARR: 21 months
$100MM+: 30 months!
Regardless of your current CAC Payback Period calculation, it is well worth considering this figure regularly. Be careful and curious if it begins to drift rapidly towards a longer period!
That can be a sign of something seriously wrong in product market fit, customer satisfaction, or sales and marketing performance.
Why is Time Value So Important in Customer Growth?
Not all money is worth the same. Inflation eats away at every dollar over time.
A dollar you receive today is worth more than one you will receive in the future. If inflation is 3% per year, your SaaS contract to receive $100 per year for 3 years will only be worth $97 per year in year 2 and $94 per year in year 3. At the same time, your cost to service will be rising with inflation! A double whammy.
Do your best to bring cash forward into your hands and reduce CAC Payback Period time to be sure it happens.
How Can I Improve My Company’s CAC Payback?
Here are strategies to improve your company’s CAC Payback:
Get Your Sales and Marketing Teams Aligned: Sales and marketing teams must be aligned in their goals and strategies. How could there be more sales acceleration and sales support with warm marketing and nurturing activities. There is much to be discovered here. Improved coordination will bring more effective lead generation and conversion.
Reconsider your Ideal Customer Profile (ICP): ICPs can and do evolve over time. Taking time out for everyone to reconsider the ICP is a great exercise. It helps in focusing marketing efforts on attracting leads that are more likely to convert and reduces acquisition costs.
Check Targeting of Marketing Channels: The ICP, once updated, should be set alongside the demographic profiles of your marketing channels. Identify the most effective marketing channels for reaching your target audience – and which are not as effective as they were. Is it a targeting issue? Every quarter at least, you should allocate more resources to channels that provide the highest return on investment, while reducing those that have less impact.
Get Efficient with Marketing Campaigns: How cost-effective are your marketing campaigns? Do you have real-time dashboards showing what sources and mediums drive the most productive leads? If not, now is the time to build them. Are those social ads not driving the engagement they should? Consider experimenting with UGC. Look at Google Ads and your PPC to see where ads or keywords are not as productive as they should be. Experiment with different campaigns and channels to identify the most efficient approaches.
Inbound Marketing is Your Friend: Invest in inbound marketing strategies to attract organic leads. Content marketing, SEO, and thought leadership can help generate leads at a lower cost.
Boost Conversion Rates: Optimize your sales funnel to improve conversion rates at each stage. How can you improve on the quality and cost of the educational material and offers you supply to each part of the customer journey? This can involve refining website design, streamlining the checkout process, and implementing more effective calls-to-action.
Implement CRM Marketing Automation: Use marketing automation tools to streamline and automate repetitive marketing tasks. Build nurturing email campaigns to help customers in a free trial move ahead to subscription. Send out regular NPS surveys. This can increase efficiency and reduce the time and resources required for customer acquisition.
Reduce Churn and Increase Customer Retention: A customer in hand is worth 3 in the field. Focus on customer retention to increase the lifetime value of your valuable existing customers. Retaining existing customers is often more cost-effective than acquiring new ones, leading to a quicker CAC Payback.
Set up Effective Referral Programs: Encourage satisfied customers to refer others through referral programs. Think about little rewards that can make their personal or work life a little easier. Could be as easy as a Starbucks card. This can be a cost-effective way to acquire new customers with a shorter payback period.
Negotiate Down Advertising Costs: No agency owner likes to hear this, but it is usually possible to negotiate advertising costs down with vendors or platforms. Bulk purchases or long-term commitments may provide opportunities for cost savings. If your media campaign spends have risen rapidly, your cost to service should be getting more efficient at the same time. See if you can’t knock a % or two off the fees and it will make a big difference in CAC Payback.
Optimize Existing Pricing Models: Are your pricing models up to date? Once per quarter, keep a record of competitor pricing matrices and see how you compare. Are there ways to rebundle that are better for the customer – either because the market has changed, your offering has changed, or the market has changed? Make sure your pricing strategies align closely with customer value and market expectations. Consider tiered pricing or bundling to increase the average transaction value.
Reduce Your Length of Sales Cycle: Streamline the sales process! Reducing the length of the sales cycle, even by a day or two, can make a huge difference. This can be achieved through effective lead nurturing, clear communication, sales acceleration and optimizing your sales processes.
Evaluate the Quality of Customer Onboarding: The first experience with your company guides every interaction thereafter. Improve the onboarding process for new customers and you’ll accelerate the time it takes for them to start generating revenue. Provide resources and support to help customers quickly derive value from your product or service.
Monitor and Adjust Metrics with a Real-Time Dashboard: Every day, monitor key metrics such as conversion rates, customer acquisition costs, and CAC Payback Period. Show the data in meetings, especially quarterly review sessions. Use this data to identify areas for improvement and adjust strategies accordingly.
Invest in Employee Training for Consistency: When sales and marketing teams are well-trained and equipped, they perform their roles more efficiently. Make sure everyone “preaches from the same hymnal” with clearly laid out ICPs, personas and key marketing and branding language. Knowledgeable and skilled teams can contribute to a more effective customer acquisition process.
This is a long list, but there will be plenty of opportunities in it that an experienced fractional CMO can help you uncover – fast.
Optimize your marketing strategies, refine customer targeting, and improve sales processes… you can do it! Work towards achieving a quicker CAC Payback Period for your company. Have a regular cadence of reviewing CAC Payback so your strategies react to the real performance data.
Monitor your CAC Payback Period to Understand Profitability as You Grow
Understanding and managing the CAC Payback Period is important for B2B companies of any size. It is especially important for industries with long sales cycles and subscription-based models (like SaaS).
Stay on top of your CAC Payback Period and you will know the effectiveness of your customer acquisition and growth strategies. Data like this helps make informed decisions about resource allocation and growth initiatives.
• CAC Payback Period: Guide to Understanding the CAC Payback Period by Wall Street Prep
• How I Calculate the CAC Payback Period by The Saas CFO
• CAC Payback Period: What is CAC Payback Period? by GeckoBoard