There’s one metric every head marketer needs to know, but few actually do.
If you’re a marketing manager or leader: get to grips with it, understand it, communicate it.
If you’re the CEO/Founder: ask for it, understand it, know it.
Once you know this metric, you’ll realise how central it is to many of your other metrics and KPIs.
You can use this metric to drive results and to monitor and understand performance.
It’s your Customer Acquisition Cost – CAC
Quite simply, CAC is defined as “the total cost related to acquiring a new customer“.
How to calculate your CAC:
It’s not as easy as it sounds.
Your CAC requires totalling all sales and marketing costs over a given period of time, divided by the number of customers acquired in that time.
Sales and marketing costs include:
- media/advertising spend
- agency/creative costs
- sales incentives
- sales and marketing salaries, commissions, bonuses and associated employment taxes
- tech and SaaS overheads – including CRM licenses, digital marketing platforms
Note that including salaries and employment costs is sometimes called the “fully loaded CAC“, but it is the fairest figure to use.
This could be a scary number…
CAC = (£sales+£marketing) / #customers
Here’s a worked example of how to calculate CAC:
MySaaS-co employs 1 marketer (£75,000 total employment cost)
They have 2 sales people (£250,000 total employment cost)
They work with an agency who charges £2,500 per month (£30,000 per year)
They spend around £3,000 per month on PPC advertising (£36,000 per year)
Other marketing costs (trade shows, award entries etc) come to £30,000
Tech overheads cost £8,000
And they take on 750 new customers in a year
Sales & marketing cost = £429,000
Divided by 750 new customers = £572 Customer Acquisition Cost
Now you know your CAC, there are multiple ways to use it.1
Monitor business performance with CAC
Every start-up, scale-up or growth business should be aware of how much it costs to acquire new customers.
But they should also be aware of any major fluctuations in CAC – this can be an important signal for any business leader.
CAC should be recalculated regularly – the frequency will depend a little on your business.
It can be challenging to monitor CAC monthly when you have a seasonal business. If your marketing is focussed around Christmas or, say, the International Boat Show, you are likely to see large peaks and troughs in both spend and acquisition numbers.
This does not mean that monitoring isn’t important, but you may need to run comparative reports looking at what was happening 12 months ago rather than 3 months ago.
Keeping on top of CAC when scaling is very important – check out my article:
Why CAC Increases as Start-ups Scale (and What Founders Should Do About It for Scale-up Success)
The relationship between Customer Acquisition Cost and Customer Lifetime Value
What’s a good or benchmark CAC? Well, that depends on your Customer Lifetime Value.
This is where it gets tricky as if you put two marketers and a two finance professionals in a room, you’ll get five definitions of Lifetime Value. Hey, there are at least three acronyms… Let’s use LTV (rather than CLV or CLTV).
Customer Lifetime Value (LTV) is a measure of how valuable each customer is.
LTV can be hard to calculate.
Let’s take a simple model – maybe an online subscription. This could be a content platform like a magazine or complex B2B SaaS.
You’ll need two other numbers to be able to calculate this – monthly churn and contribution margin.
Monthly churn (the total number of customers lost each month)* will also give you the lifespan of the customer:
Average lifespan = 1/Monthly churn
In our example, monthly churn is 2.5% so our average customer lifespan is
1/2.5% = 40 months
Contribution margin is the revenue left after subtracting the products variable costs (such as materials and labour).
Contribution margin = Sale Price – Variable Costs
In our example, our sale price is £50 per month and variable costs £7 per month.
Monthly contribution margin = £50 – £7 = £43
*There’s a difference between ‘net churn’ and ‘gross churn’ – ‘net churn’ refers to the total number of customers lost minus those gained – it’s not a helpful way to look at churn in this context. ‘Gross churn’ is simply the number of customers lost and is the data we require here.
LTV = Contribution Margin x Average Lifespan
So in our example that’s £43 * 40 = £1,720.
LTV/CAC ratio
So now we have our really important ratio:
Customer Lifetime Value / Customer Acquisition Cost
In our example, that’s
LTV (£1720) / CAC (£572)
So we make around 3x the acquisition cost from each customer in this example.
Note for a B2B SaaS, 3:1 is pretty much baseline expectation for investors.
If that ratio is not palatable to the business, there are a number of areas we can flex:
How to improve your LTV:CAC ratio
Flexing any of the inputs into our calculation will impact on the ratio. But be wary – think of this equation as an eco-system. Changing one number could impact on another.
For example:
- Average customer revenue – you can choose to increase the price (but you must be aware of the impact this will have on retention) or you can sell more things to that customer
- Churn rate – save more customers (you may need to trade off the average customer revenue to do this if your save tool is a discount…)
- Number of new customers – you may be able to optimise your sales and marketing funnel – can squeeze 5% more customers from your existing efforts (maybe through improved nurture journeys? better onboarding? tweaking landing pages?) the effect in this scenario would be to reduce CAC to £545, raising LTV:CAC to 3.16:1
- Cut sales & marketing costs – too often, cutting marketing is the first option taken by many businesses.
And here’s why: marketing has failed to manage these numbers and the expectations of the leadership team effectively
Customer Acquisition Cost applied
1) Marketing as a percentage of CAC - M%CAC
So this is the marketing costs as a % of CAC. Here, I’d look at the direct costs of marketing – employment costs, agencies, media spend and other direct costs as a part of your overall CAC.
The point of this metric is it’s a barometer of marketing success over time. If the M% of CAC goes up, you could be in trouble (it’s likely because marketing costs are escalating, rather than sales costs declining in my experience!).
2) Time to payback CAC
If your business is built around a one-off sale, CAC needs to be lower than the sale price. However, most B2B businesses – and many B2C businesses – have a longer sales relationship with the customer.
This makes it possible for CAC to be higher than the initial spend of the customer.
CAC Payback Time = CAC / Monthly Contribution
To calculate CAC payback time, divide the CAC by the monthly contribution figure.
In our example above, MySaaS-co’s average customer contribution is £43
Payback time = CAC (£572) / Monthly Contribution (£43) = 13 months
This is an important number: in our example, it’s over a year before the customer has paid back the cost of acquisition.
Note that in this example, to get the payback time to below 12 months, you’d could change monthly pricing by £5 or reduce variable costs by £5.
Average Customer Acquisition Costs (CAC)
I get lots of people ask this question – what is the average CAC? What’s a benchmark CAC for my industry?
It’s a hard one to answer because every business is different.
A better question might be:
What's a good LTV:CAC ratio?
If your acquisition costs outweigh your lifetime value, you’re in trouble (it’s costing you more to acquire customer than they make for your business).
Anything below 3:1 risks getting you in financial difficulty.
However, the opposite can also be true: if your lifetime value significantly outweighs your acquisition cost (say, 10:1 or even 6:1), you may be at risk of not investing enough in acquisition.
Typically, a range of LTV:CAC of 3:1 or 4:1 builds a sustainable business and gives you a platform to scale.
Check out the Customer Acquisition Explained video:
Other resources you may find helpful: