I’ve noticed marketers calculating customer acquisition costs (CAC) and lifetime value (LTV). But many don’t dive deeper. We miss opportunities if we don’t look at CAC Payback Period and the LTV:CAC Ratio.
Let’s start with CAC payback period (otherwise known as Months to Recover CAC). Assuming we want to know how many months it takes to recover all our expenses, we do the following math:
Months to recover CAC = CAC / (Gross Margin % x monthly revenue per customer)
How many months should it take? It depends on what you are selling and what kind of runway you have. If it’s a startup, you have to consider cash flow. If it takes 8 months or a year, do you have the cash to wait that long? Without funding, a startup selling enterprise software will struggle. A large company selling to a large company can won’t mind a longer CAC payback period.
The LTV:CAC ratio is one of those magic metrics. It can tell us if a company is in healthy shape.
A ratio less than 1 isn’t a sustainable business. Customers aren’t around long enough to cover the cost of acquisition. Around 1 is break even. You are keeping your head above water, but barely. There are no efficiencies or ability to scale. This is dangerous limbo. While a ratio of 3:1 is a good goal, the trend line for the ratio should be going to the upper right.
For both metrics, CAC must be dead on. I’ve seen advertisers only include media costs when calculating CAC. For accurate CACs, include marketing and sales teams salaries, SaaS tools, agency fees, freelancers, and on and on.
This doesn’t happen often anymore, but some SaaS startups would include free account members in their CAC. If you have the conversion rate to paid customers, then incorporate them into CAC.