How much does it cost for your business to acquire a single customer?
Cost to Acquire a Customer (CAC) needs to be calculated to know which customers are worth reaching. Which will be the most profitable for the company over time?
Cost to Acquire a Customer (CAC) DEFINED
CAC = Total Cost of Acquisition / Number of Customers Acquired
To calculate CAC, you need to have two numbers:
- Total Cost of Acquisition: How much was actually spent on acquisition activities, in total? Include all costs associated with acquiring customers, not just the media costs. It can encompass marketing expenses, advertising costs, sales team salaries and commissions, trade show booths, freelancers, creative costs, software and/or tools used in the acquisition process.
- Number of New Customers Acquired: The total number of new customers gained during a specific period.
A lower CAC is desirable and a goal for which many a fractional CMO is hired. Low CAC indicates that the company is acquiring customers at a lower cost, which will lead to higher profit margins.
Overall, your CAC should be at a level where the revenue received from the customer exceeds the CAC within a reasonable period. This is known as CAC Payback. For most companies, that is one year or less, but it varies industry to industry.
LTV:CAC vs CAC
A related figure that SaaS companies and their investors pay attention to in particular is LTV:CAC.
Cost to Acquire a Customer (CAC) DEFINED
LTV:CAC = Lifetime Value per Customer / Cost of Acquiring a Customer
It’s important to balance cost with the quality of your acquired customers and their lifetime value (LTV or CLTV). Acquiring low-quality customers at a very low cost is just not sustainable in the long run!
Monitoring CAC is particularly important for businesses engaged in customer-centric activities. This means industries like subscription-based services, SaaS, e-commerce, and others where acquiring and retaining customers is key. If you are outspending or missing out on opportunities from underspending, you’ll know it.
By analyzing CAC alongside other metrics like customer lifetime value, businesses can make informed decisions about their marketing and sales strategies and optimize their overall profitability.
How do I calculate CAC?
Here’s an example of how to calculate CAC using a fictional company in Atlanta called GoodCompany.
Here’s the facts:
- GoodCompany acquired 50 customers at $75 each in March
- GoodCompany also spent $250 on other marketing costs like software and people in March.
- Each of these new GoodCompany customers is worth $400 over their lifetime.
Total Cost of Acquisition in March:
(50 x $75) + $250 = $4000
$4000 / 50 = $80
CLTV = $400
$400 : $80 = 5:1
By most measures, GoodCompany is doing very well at getting a lot of new revenue and new customers at a low efficient cost for marketing.
What Is A Good LTV:CAC Ratio?
- 1:3 = Your marketing is acquiring customers too slowly and unproductively. This could be a sign of lack of PMF or marketing that lacks distinctiveness, good pricing or a focus on real pain points.
- 1:1 = Your company is spending the same on acquisition as the customers spend, which isn’t sustainable long term. However, in short term periods or to gain customers that might show more LTV over time, this could work.
- 3:1 = Getting back $3 for every $1 spent on marketing is a strong signal that you are on the right path. For most launches and initial tests, this would be the home run hit.
- 6:1 = At this level of profitability, your company could be leaving money on the table by not spending enough to fully reap the new customers and new revenue it could be harvesting.
How Can I Improve My Company’s LTV:CAC Ratio?
There are many ways to improve your customers’ long term value and lower the cost to reach them.
Fractional CMOs like to measure LTV:CAC ratio on their data dashboards in real time to see the trends in this critical stat. If you see your ratio move the wrong way, consider these areas:
- Do a conversion rate optimization drive and have everyone in the company throw in their best ideas. Add more trust signals to your conversion journey. Lean in on pain points and authentic solutions in your branding and messaging. Ask the sales team for their ideas: what are 2-3 sales collateral items that would be most helpful to the sales growth process?
- Check the numbers to see which channels are most productive for delivering good customers at an efficient cost. See where budget can be rearranged to place more ads and energy where it is making the most difference. However, be aware that most funnels have a holistic nature, so if you cut off a seemingly-unproductive channel altogether, you may see a big drop in conversions elsewhere in your funnel.
- Double down on customer loyalty strategies and case studies. Customers generally like to be asked about their opinions about how your products and services could serve them better. If you can deliver their authentic experience of success with your company through your entire customer journey, you will improve ARPU (Average Revenue Per Unit or Customer) and LTV.
Don’t risk spending more money to get customers than you get from them!
Keep track of your acquisition costs and question your team if you see churn rising. It is a clear canary in a coal mine.