Also called: CAC, Cost of Customer Acquisition, Cost per Acquisition, Cost per Customer, Acquisition Cost, Cost of Acquiring Customers, and Cost of User Acquisition
See also: Annual Recurring Revenue (ARR), Monthly Recurring Revenue (MRR), Product-Led Growth, Pricing Strategy
Relevant metrics: Customer Acquisition Cost (CAC), Time to Payback CAC, Cost per Lead (CPL), Conversion Rate (CR), Average Order Value, Lifetime Value of a Customer, and Return on Investment (ROI)
How to calculate Customer Acquisition Cost (CAC):
CAC = Total Customer Acquisition Costs / Number of New Customers Acquired
What is Customer Acquisition Cost (CAC)?
Customer Acquisition Cost (CAC) is a metric used by businesses to measure the cost of acquiring a new customer. It is an important factor to consider when evaluating the effectiveness of marketing and sales efforts, as well as assessing the overall profitability of a business. CAC is calculated by dividing the total costs associated with customer acquisition (including marketing expenses, sales expenses, and other related costs) by the number of new customers acquired during a specific time period.
A low CAC indicates that a business is efficiently acquiring new customers, which is generally seen as a positive sign for growth and profitability. Conversely, a high CAC may suggest that the company is spending too much on customer acquisition and might need to reevaluate its marketing and sales strategies. Companies often aim to strike a balance between acquiring new customers and retaining existing ones, as both are crucial for long-term success.
An example CAC calculation
Let’s consider a hypothetical example to illustrate how to calculate Customer Acquisition Cost (CAC).
Suppose a company, XYZ, spends the following amounts on customer acquisition activities over a 3-month period:
- Marketing expenses: $20,000
This includes costs for advertising campaigns (online and offline), content creation, social media marketing, and email marketing. - Sales expenses: $10,000
This includes salaries for sales staff, commissions, and any sales-related tools or software subscriptions. - Other related costs: $5,000
This includes costs for events, webinars, promotional materials, and any other customer acquisition-related expenses not covered in marketing or sales.
During the same 3-month period, the company acquires 100 new customers.
To calculate the CAC, first add up all the costs associated with customer acquisition:
Total Customer Acquisition Costs = Marketing expenses + Sales expenses + Other related costs
Total Customer Acquisition Costs = $20,000 + $10,000 + $5,000
Total Customer Acquisition Costs = $35,000
Next, divide the total customer acquisition costs by the number of new customers acquired:
CAC = Total Customer Acquisition Costs / Number of New Customers Acquired
CAC = $35,000 / 100
CAC = $350
In this example, the Customer Acquisition Cost (CAC) for company XYZ is $350 per customer. This means that, on average, XYZ spends $350 to acquire a new customer during the 3-month period.
Why is CAC important to product development?
CAC impacts various aspects of a business’s growth, profitability, and overall success. By closely monitoring and managing CAC, product teams can make more informed decisions and improve their products’ performance in the market. CAC can help product teams calculate the overall value of a customer to the company.
Understanding and monitoring CAC can help teams make more informed decisions regarding their products, marketing, and sales strategies, including:
- Allocation of resources and ad-spend. By understanding CAC, product managers can identify the most efficient channels for customer acquisition and allocate resources accordingly. This helps them optimize marketing and sales efforts, ensuring that the business gets the most value for its investments.
- Pricing strategy. CAC is a crucial input in determining the appropriate pricing strategy for a product or service. If the CAC is too high, it may indicate that the product is underpriced, and the business may not be able to sustain growth or profitability. Conversely, if the CAC is too low, the product might be overpriced, and the company may struggle to attract new customers.
- Product-market fit. A low CAC can be an indicator that the product is well-received in the market and that there is a strong product-market fit. A high CAC, on the other hand, might signal that the product needs improvement or that the target audience is not being effectively reached.
- Customer Lifetime Value (CLV) comparison. Comparing CAC with the Customer Lifetime Value (CLV) allows product managers to assess the overall profitability and sustainability of a business. Ideally, the CLV should be significantly higher than the CAC, ensuring that the company can recoup its acquisition costs and generate a profit over time.
- Budgeting and forecasting. Accurate CAC calculations help product managers create more reliable financial forecasts and budgets. By understanding the cost of acquiring new customers, product managers can better predict revenue and growth, allowing them to make more informed decisions about resource allocation and strategic planning.
- Performance measurement. Tracking CAC over time allows product managers to evaluate the effectiveness of their marketing and sales strategies, identify areas for improvement, and implement changes to optimize customer acquisition efforts.
How do you calculate CAC?
There are several ways to calculate Customer Acquisition Cost (CAC), depending on the level of detail and the specific aspects of customer acquisition that you want to consider. Here are some common methods for calculating CAC:
Basic CAC Formula
The most straightforward method is to divide the total cost of customer acquisition by the number of new customers acquired during a given time period.
CAC = Total Customer Acquisition Costs / Number of New Customers Acquired
This basic formula considers all costs related to customer acquisition, including marketing expenses, sales expenses, and other related costs.
Channel-Specific CAC
If you want to understand the CAC for specific marketing channels, you can calculate it by dividing the total cost of customer acquisition for each channel by the number of new customers acquired through that channel.
Channel-Specific CAC = Total Customer Acquisition Costs for Channel / Number of New Customers Acquired through Channel
This method helps identify which marketing channels are more efficient and cost-effective in acquiring new customers, allowing you to optimize your marketing efforts.
Cohort-Based CAC
Cohort-based CAC is a more sophisticated approach that involves calculating the CAC for different customer segments or cohorts. This method helps you understand the acquisition costs for different customer groups and identify trends in customer acquisition over time.
Cohort-Based CAC = Total Customer Acquisition Costs for Cohort / Number of New Customers Acquired in Cohort
Blended CAC
Blended CAC is calculated by dividing the total cost of customer acquisition by the total number of customers, both new and existing, during a specific time period. This method can be useful for businesses with a subscription-based model or companies that invest heavily in customer retention efforts.
Blended CAC = Total Customer Acquisition Costs / (Number of New Customers Acquired + Number of Existing Customers)
Should wages, software, and consultants be included when you calculate CAC?
When calculating Customer Acquisition Cost (CAC), the primary focus is on the costs directly associated with acquiring new customers. This typically includes marketing and sales expenses - and also wages, software, and professional services (consultants, etc.) when they directly relate to customer acquisition.
However, the specific costs to be included in the CAC calculation may vary depending on the business and industry. What’s most important is that you maintain consistency in the types of costs you include and how you allocate them. This ensures that your CAC calculation remains accurate and comparable over time, allowing you to effectively evaluate the efficiency of your customer acquisition efforts and make informed decisions on resource allocation and strategy.
What are best practices for reducing CAC?
Reducing CAC requires ongoing efforts and continuous optimization. By closely monitoring their impact and continuously testing new ways to acquire new customres, businesses can lower their customer acquisition costs and improve overall profitability. There are several tactics that can help lower CAC:
- Optimize marketing channels. Analyze the performance of your marketing channels to identify which ones have lower CAC and higher ROI. Focus your resources and efforts on those channels to increase their efficiency.
- Improve targeting. Refine your customer targeting to reach the most relevant audience for your product or service. By focusing on the right demographics, interests, and behaviors, you can improve conversion rates and reduce CAC.
- Leverage content marketing. Create high-quality, relevant content that addresses your target audience’s needs and interests. This can help attract organic traffic, increase brand awareness, and improve customer engagement, ultimately lowering CAC.
- Utilize marketing automation. Implement marketing automation tools to streamline and optimize your marketing efforts, reduce manual work, and improve conversion rates. This can help lower CAC by increasing the efficiency of your marketing campaigns.
- Enhance product value proposition. Improve your product’s value proposition to make it more appealing and competitive in the market. This can lead to better conversion rates and reduced CAC.
- Refine sales processes. Streamline and optimize your sales processes to make them more efficient and effective. Train your sales team to focus on high-quality leads and employ better closing techniques.
- Improve onboarding and customer support. By enhancing the onboarding process and providing excellent customer support, you can increase customer satisfaction and reduce churn, leading to a lower CAC over time.
- Encourage customer referrals. Implement referral programs that incentivize existing customers to recommend your product or service to their network. Customer referrals can lead to new customers with a lower CAC, as word-of-mouth marketing often has lower associated costs.
- A/B testing and optimization. Continuously test and optimize your marketing campaigns, landing pages, ad creatives, and other elements of your customer acquisition funnel. This iterative approach can help improve conversion rates and lower CAC.
- Monitor and analyze data. Regularly track, monitor, and analyze your customer acquisition data to identify trends, patterns, and areas for improvement. By staying informed about your CAC and the factors affecting it, you can make data-driven decisions to optimize your customer acquisition efforts.
How does CAC relate to Lifetime Value and why is that ratio important?
The relationship between Customer Acquisition Cost (CAC) and Customer Lifetime Value (LTV) is often used for understanding the profitability and sustainability of a business. CAC represents the cost of acquiring a new customer, while LTV represents the total revenue a business can expect from a customer over the entire duration of their relationship.
Keeping good ratio between CAC and LTV is essential for ensuring that a company can recoup its customer acquisition costs and generate a profit from each customer. Ideally, the LTV should be significantly higher than the CAC to account for other expenses associated with servicing customers and running the business.
A common rule of thumb is to aim for an LTV:CAC ratio of at least 3:1, meaning the LTV should be three times or more the CAC. This ratio indicates that for every dollar spent on acquiring a customer, the business can expect to earn three dollars in revenue over the customer’s lifetime. A higher ratio may signal a more efficient and profitable customer acquisition process, while a lower ratio might indicate that the business is spending too much on customer acquisition relative to the revenue it can generate.
It’s important to note that the ideal LTV:CAC ratio can vary depending on the industry, business model, and growth stage of a company. For example, a high-growth startup might be willing to accept a lower LTV:CAC ratio in the short term to scale rapidly and capture market share, while a mature company might prioritize a higher LTV:CAC ratio to maintain profitability and steady growth.
Calculating LTV/CAC ratio for B2B2C
When calculating CAC/LTV in a B2B2C scenario, you can consider both the “B” (the intermediate business) and the “C” (the end consumer) as customers, depending on the context and the goals of your analysis.
- If you focus on the “B” as the customer. In this case, you calculate CAC by considering the costs associated with acquiring and maintaining relationships with the intermediate businesses. The LTV would be based on the revenue generated from those businesses over the duration of their relationship. This approach provides insights into the efficiency and profitability of your relationships with the intermediate businesses.
- If you focus on the “C” as the customer. In this scenario, you calculate CAC by considering the combined costs of acquiring both the intermediate businesses and the end consumers. The LTV would be based on the revenue generated from the end consumers over the duration of their relationship. This approach provides a more comprehensive view of the overall profitability of the B2B2C model, but it might be more challenging to calculate due to the indirect relationship with the end consumers.
Ultimately, the choice of whether to focus on the “B” or the “C” when calculating CAC/LTV in a B2B2C model depends on your specific business goals and the insights you’re seeking. You might choose to calculate CAC/LTV for both the “B” and the “C” separately to gain a more complete understanding of your business’s profitability and efficiency at different levels of the value chain.
Frequently asked questions
What is the difference between CPA and CAC?
Cost Per Acquisition (CPA) and Customer Acquisition Cost (CAC) are both metrics used to measure the cost of acquiring customers. CPA is a more focused metric that evaluates the performance of individual marketing campaigns or channels, while CAC is a broader metric that takes into account all costs associated with acquiring new customers. Both metrics are important for businesses looking to optimize their marketing and sales strategies and improve overall profitability.
The two differ in scope and focus:
Cost Per Acquisition (CPA)
CPA is primarily used in the context of advertising and marketing campaigns, and it measures the average cost of acquiring a single customer, lead, or conversion through a specific marketing channel or campaign. CPA is calculated by dividing the total cost of a marketing campaign (such as ad spend) by the number of acquisitions (customers, leads, or conversions) generated by that campaign.
CPA = Total Marketing Campaign Cost / Number of Acquisitions
CPA is a useful metric for assessing the effectiveness and efficiency of individual marketing campaigns, as well as comparing the performance of different marketing channels.
CAC is a broader metric that encompasses the overall cost of acquiring a new customer, including marketing expenses, sales expenses, and other related costs. CAC provides a more comprehensive view of the efficiency of a company’s customer acquisition efforts and is crucial for evaluating the profitability and sustainability of a business.
What is the difference between CPA and ROAS?
CAC is a broader metric than Return on Ad Spend (ROAS) that encompasses all costs associated with acquiring new customers, while ROAS focuses specifically on the revenue generated by advertising campaigns relative to their cost. Both metrics are important for businesses looking to optimize their marketing and advertising strategies and improve overall profitability.
Return on Ad Spend (ROAS)
ROAS is a metric that measures the revenue generated from advertising campaigns relative to the cost of those campaigns. It is calculated by dividing the total revenue generated by a specific marketing campaign by the total cost of that campaign (ad spend).
ROAS = Total Revenue Generated from Advertising Campaign / Total Advertising Campaign Cost
ROAS is used to evaluate the effectiveness and efficiency of individual advertising campaigns and helps businesses optimize their ad spend to generate maximum revenue.
Examples
Dropbox
Dropbox is a cloud storage and file-sharing service that was able to reduce its CAC by implementing a referral program that rewarded existing users with additional storage space for referring new users. By leveraging the power of word-of-mouth marketing, Dropbox was able to acquire new customers at a lower cost than traditional marketing channels, resulting in significant savings and increased profitability.
Dollar Shave Club
Dollar Shave Club is a subscription-based service that delivers razor blades and other personal grooming products to customers on a monthly basis. The company was able to reduce its CAC by creating humorous and attention-grabbing videos that went viral on social media, resulting in millions of views and a surge in new customer signups.
HubSpot
HubSpot is a marketing and sales software company that was able to reduce its CAC by implementing inbound marketing strategies that focused on creating high-quality content and engaging with potential customers through social media and other online channels. By building a loyal audience of engaged prospects, HubSpot was able to generate more leads and conversions at a lower cost than traditional outbound marketing methods.
Zappos
Zappos is an online shoe and clothing retailer that was able to reduce its CAC by providing exceptional customer service and creating a culture of customer satisfaction. By providing free shipping and returns, and by hiring friendly and knowledgeable customer service representatives, Zappos was able to generate a loyal customer base that referred new customers through word-of-mouth marketing, resulting in lower customer acquisition costs and increased profitability.
- What is the total cost of acquiring a new customer?
- What is the average cost of acquiring a new customer?
- What is the cost of customer acquisition relative to the lifetime value of the customer?
- What is the cost of customer acquisition relative to the revenue generated by the customer?
- What is the cost of customer acquisition relative to the cost of customer retention?
- What is the cost of customer acquisition relative to the cost of customer service?
- What is the cost of customer acquisition relative to the cost of marketing?
- What is the cost of customer acquisition relative to the cost of sales?
- What is the cost of customer acquisition relative to the cost of product development?
- What is the cost of customer acquisition relative to the cost of customer support?
You might also be interested in reading up on:
- Neil Patel @neilpatel
- Larry Kim @larrykim
- Brian Balfour @bbalfour
- Sujan Patel @sujanpatel
- Rand Fishkin @randfish
- From Impossible to Inevitable: How HyperGrowth Companies Create Predictable Revenue by David Skok (2016)
- Customer Centricity: Focus on the Right Customers for Strategic Advantage by Peter Fader (2014)
- The SaaS Edge: Leveraging the SaaS Opportunity by David Skok (2018)
- The SaaS Financial Model: A Guide to Forecasting and Performance Measurement by David Skok (2019)
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