Customer acquisition cost is the amount of money you spend to attract each new customer. This metric demonstrates how successful your business model is.
In this article, we will discuss the difference between CAC and lifetime value, explain how to calculate CAC, and provide four tips to reduce it.
Why is customer acquisition cost important?
CAC is the money spent on marketing and salaries. You can build a marketing strategy, monitor your marketing channels’ effectiveness, and optimize costs without losing customers if you track this metric.
Customer acquisition cost is frequently compared with lifetime value (LTV) and is particularly important for SaaS companies. Here are three more reasons why you should keep an eye on your CAC:
- It helps optimize the LTV/CAC ratio. Try to do cost optimization regularly. As a guideline, you can aim for a 3:1 ratio. This means that for every dollar spent, you earn $3, which is quite good for any business.
- You can define and optimize the payback period. If you have just started your business, CAC will give you an idea of how long the payback period can take. This is especially true for companies that practice the freemium model.
- CAC shows your future business health. If you want to know what amount of profit you will receive, add up your CAC for previous months, and subtract the projected revenue.
It is vital to understand the difference between CAC and cost per action (CPA). CAC measures the cost of attracting a customer, while CPA reflects the cost of a specific action a user performs. For example, if you watch YouTube for free, you are measured using CPA. If you have bought a YouTube Premium subscription, you are measured using CAC.
Read on to discover more about the average CAC in different spheres.
Average customer acquisition cost
The problem with CAC is that some companies calculate their ‘blended’ costs and include the number of customers acquired without taking the funds they invested in marketing into account. However, there are different types of CAC you need to differentiate between:
- Organic CAC includes the total number of new customers acquired across all channels.
- Inorganic CAC includes only new customers acquired through paid marketing.
Take a look at the table below to discover the average CAC in different industries.
We can see that CAC varies for different spheres. Both average organic and inorganic CAC are the highest in the education industry. This means that acquiring new university and college students is the most expensive. The lowest organic and inorganic CAC are in consumer eCommerce and retail.
Keep in mind that you should not concentrate on your industry’s average CAC. Your company can reduce customer acquisition costs using some tips we will describe in one of the next sections.
There is another important metric connected with CAC — the LTV/CAC ratio. Let’s find out the difference between customer acquisition cost and customer lifetime value.
Customer acquisition cost vs. customer lifetime value
Customer acquisition cost is related to customer lifetime value. LTV reflects how much money you earn from one customer, and CAC measures how much you invested to attract them. In other words, the rise of LTV means that your profit is increasing, while the rise of CAC indicates that it’s decreasing.
Tracking these metrics is on the to-do list of every successful business owner. We will explain how to calculate CAC in the next section, but now let’s discuss the role of the LTV/CAC ratio.
- 1:1. Such a model is not viable because the company loses the profit it gained with every acquisition.
- 2:1. This means that your business earns twice more money than you spend on customer acquisition. You make very little profit.
- 3:1. You earn 3$ for each 1$ spent on acquiring new customers, which is a good result but not the best one.
- More than 3:1. Great result! Continue working to maintain this value.
The high LTV/CAC ratio is the basis of many successful SaaS projects. Note that you need to calculate both metrics regularly and for the same period. It’s time to discover how to calculate CAC.
How to calculate customer acquisition cost
Reducing CAC is one of the ways to earn more from your business. To do it, you need to know how much you spend on customer acquisition.
Now let’s have a look at the ways to calculate CAC.
There are two methods: basic and complex. The basic formula shows an approximate CAC, as it doesn’t include a lot of expenses. The complex formula includes overhead costs, such as using professional services, sales and marketing wages, software costs, and other costs that are not incurred in marketing. Use a complex method to get a more exact result and draw informed conclusions.
This formula allows you to determine the approximate customer acquisition cost for a certain period of time. You can calculate the total marketing cost for acquiring new customers (MCC) and the total number of customers acquired (CA) — divide the first number by the second one.
CAC = MCC / CA
For example, you have spent 3000$ (MCC) on marketing for the last three months and acquired 100 customers (CA). So, your CAC for the last three months is 30$ (3000/100).
However, you spent much more on customer acquisition than you invested in your ad campaign budget. You cannot ignore the salaries of your employees, premium subscriptions they need to use, and other expenses. These spendings often significantly affect the real CAC.
It is reasonable to calculate CAC for each channel. Different channels require different expenses, and they can give different profits. To take this into account, you need to use a complex formula.
To calculate CAC, add MCC, wages connected with sales and marketing (W), marketing and sales associated software cost (S), professional services (PS), and other overheads (O), and then divide the result by CA. Don’t forget that you should use all metrics from the same period.
CAC = (MCC + W + S + PS + O) / CA
Let’s look at an example. You still have spent 3000$ on marketing (MCC), but you have also spent 200$ on wages connected with sales and marketing (W), 100$ on marketing and sales associated software cost (S), 300$ on professional services (PS), and 100$ on other overheads (O). Your company has acquired 100 customers, so your CAC is 37$ (3700/100).
Calculate CAC for different channels, and compare the results. You’ll see where you spend less money on acquiring one customer and will be able to make changes to your marketing strategy.
If you think that your company’s customer acquisition cost is too high, there are effective ways to reduce it and earn more from your business.
4 tips to reduce your customer acquisition cost
At some point, every business owner considers reducing CAC as a way to increase profits. Follow our tips if your goal is to make acquisition costs lower without losing the number of customers.
- Optimize your sales funnel. Quantify each step of the sales process, analyze the buyer journey, and pay attention to each step. Find the problems and difficulties customers face to solve them, and test different strategies. Your CAC may grow at first, but you will gradually determine which customer acquisition methods work for you and focus on them.
- Build loyalty. Loyalty is a measure of a customer’s likelihood to buy from a company or brand again. It is a way of improving both CAC and LTV. Segment your clients, encourage customers to give feedback, and act on it to build customer loyalty. People should feel that customer care is a priority for the brand. Check out our article about customer loyalty to get more tips.
- Improve your marketing channels’ effectiveness. If you calculate CAC for every channel, you should concentrate on more effective ones. You need to know your audience, provide quality, write eye-catching titles, and proofread and optimize your content. Remember that content marketing is the way to encourage people to buy as fast as possible.
- Use CRM marketing. CRM marketing helps you analyze, manage and improve customer relationships. To succeed in it, choose the right CRM system, qualify and segment your customers, use a customer-centric approach, and support clients at each stage of the buyer journey. CRM implementation lets you optimize the sales funnel and reduce CAC.
Congrats, now you know more about CAC and the difference between this measure and LTV. You also have all the information necessary to calculate this metric and reduce it. Use your knowledge to earn more from your business.
Last Updated: 12.04.2022