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There are so many different costs that come with running a business. You need to focus on the costs of manufacturing or delivering a product or service, as well as monitoring your overhead. You also need to keep an eye on how much it costs to acquire new customers, because while you always need to invest in growing your client base, you also need to make sure you’re doing so in a way that doesn’t derail profitability.
That’s why understanding your customer acquisition cost is so important.
Understanding Customer Acquisition Cost
Customer acquisition costs (CAC) are costs associated with attracting and converting new customers. It covers customers moving from the discovery to the purchase stage in your digital sales funnel.
Common examples of customer acquisition costs include:
- Paid ad expenses
- Lead generation software
- Sales team member salaries
- The cost of hosting free demos or trials
- Lead magnet generation
- Appointment-booking software
- Marketing software
- Social media contests
- Sponsored promotions
- SEO and content marketing expenses
Simply put, all resources, products, salaries, and third-party payments to vendors associated with acquiring new customers go into your CAC.
Why Does Your Customer Acquisition Cost Matter?
Your customer acquisition cost is a must-watch number because ultimately you need to be making more money than you spend.
If the average customer lifetime value (LTV) is $500 for your product and you’re spending $506 acquiring them, you’re money and you could find yourself in a cash flow crunch,
While it’s uncommon for your CAC to be higher than your LTV, it’s still something you need to watch carefully because it’s not uncommon for CAC and your overhead costs, and product or service production costs to be higher than the revenue brought in by customers.
So, even if the average customer is worth $500, you might only really be able to spend $1 per click on an ad campaign once you consider the fact that:
- You’re paying an ad company $500 a month to run the ad campaigns (which averages to about $10 per acquired customer based on scale)
- Users need to click on an average of three ads to convert ($3 total)
- You need to have a dedicated landing page that cost $50 to create (or $1 per customer)
- Your sales team uses a lead database to create more-relevant personalized demos, which costs $1000 a month ($20 per customer)
- You consider your other production and overhead costs
CAC can help you make smarter decisions so that you can increase your ROI and scale more.
And significantly, that may mean realizing that you should be paying more in CAC to invest in higher-value audiences that are either more likely to convert, or convert at higher values.
Maybe if you pay $5 per click, for example you’ll have a 3% conversion rate at a $500 LTV. And you realize that paying $10 per click for a 8% conversion rate and a $1500 LTV is possible. In this case, it makes sense to invest in the higher quality audience even if the CAC is higher.
How to Calculate Customer Acquisition Costs
You can calculate customer acquisition costs by adding up all expenses that come with acquiring a customer and then dividing it by the total number of new customers.
Or, you can use this customer acquisition cost formula:
Sum of acquisition expenses / Total number of new customers = CAC
When in doubt, you can also use a free customer acquisition cost calculator that’s available online.
Remember to account for all costs associated with acquisition, including the salaries of marketing and sales teams, and any software used to research, plan, create, or execute campaigns that attract or convert customers.
How Should I Break Down CAC?
There are a few different ways to break down your CAC.
You have your overall customer acquisition costs, which tell you how much it’s currently costing you to acquire new customers with your marketing and sales expenses as they are.
This is an important metric to watch, because sales funnels are typically complex, and you need to account for the total cost of acquiring customers when making business and pricing decisions.
It can also be a good idea to break down CAC by marketing channel. Looking at which platforms cost more and, in return, if the value of the customers they attract is worth that cost, can help you to optimize your sales funnel for increased revenue and ROI.
Some platforms will be more profitable than others. Facebook Ads, for example, often cost slightly less per click than Google, but Google can help you capture people further in the funnel. It may be expensive to host unique landing pages for different campaigns, but it’s more effective than relying on a single landing page to try to appeal to all audience segments.
That being said, you may realize that certain platforms are not doing what they’re supposed to do. That’s your chance to see if you should switch up your strategies and make some changes.
Keep in mind, however, that looking at per-platform CAC and LTV can be somewhat inaccurate because they don’t tell the full picture. You might get a great lead from a LinkedIn Ad, but you needed that lead database software in order to get the company information needed to target decision-makers at that firm.
Things can be apples to oranges, so try to consider the big picture when looking at platform-by-platform data.
If nothing else, look at first touch-points to see what’s effective at driving high-intent, high-value customers, and look at last-click points to see what helped drive the sale.
Final Thoughts
Analytics and data are crucial to understanding your CAC.
In subscription businesses, this is particularly vital, since CAC can often be slightly higher than standard eCommerce businesses, but the payoff is typically absolutely worth that cost.
Baremetrics is a SaaS-focused, startup-friendly subscription analytics platform. We provide over 25 subscription metrics so that you can understand what’s driving revenue and how to optimize for more profit.
