Seldom do businesses invest in understanding their cost of customer acquisition. It is an important metric to understand and monitor while developing new marketing initiatives, adjusting pricing models, and the like.
Customer Acquisition Cost (CAC) and its relation to Customer Lifetime Value (LTV) is a key indicator of a business’s health. To reiterate this series theme, the LTV of a customer needs to meet or exceed the CAC to remain a sustainable business.
CAC is calculated by determining the ratio of total cost of sales (including labor, marketing, on boarding, and all related expenses) to the number of newly acquired customers during a given period of time. CAC should be monitored each quarter to ensure business stability, in addition to before and after any large initiatives to measure their effectiveness.
While customer acquisition strategies depend on both industry and audience, the underlying concepts remain constant. There is an inherent need to position your product or service as both a solution to your prospect’s current business challenges, and as a service provided by a trustworthy market leader. Industry leaders continuously discredit paid media as their primary customer acquisition strategy. Blogging and other methods of content marketing prevail as the most cost effective.
Industry averages are important to understand as a benchmark for both CAC and LTV, and differ between industries:
- Travel: Priceline.com, $7
- Telecom: Sprint PCS, $315
- Retail: Barnesandnoble.com, $10
- Financial: TD Waterhouse, $175
When just starting out it may prove beneficial to use industry data in the absence of historical data.
As a note, for businesses with monthly projected revenue it can be beneficial to calculate the average payback period. Simply divide the CAC per new customer by the average monthly recurring revenue per customer. As a benchmark, this number (represented in months) should be less than the projected lifetime – thus, additional months represent profit.
Understanding how your Customer Acquisition Cost relates to your Customer Lifetime Value will enable your business to avoid costly customers.
Update: Just saw this quote on Chris Yeh’s blog:
The average Constant Contact customer stays with the company for 45 months. At their $39/month price point, this means that a customer generates about $1,800 in lifetime revenue, allowing Constant Contact to make money at a CPA (cost-per-acquisition) of $450.