The vital importance of customer acquisition cost (CAC)

CAC (customer acquisition cost) is the key metric for a SaaS startup.

To help you understand its usefulness, we explain in this article why and how to calculate the cost of acquiring new customers. We'll also share tips on how to properly analyze it,as well as how to improve your CAC (whatever the type of marketing spend or campaign).

1 - CAC: what it is, how it’s calculated, and what it’s for

CAC can be seen as the fuel of growth for startups, whether SaaS or e-commerce companies.

To acquire new prospects and convert as many of them as possible into customers, startups spend on sales and marketing, and these expenses can represent a significant proportion of their total costs.

The aim of these costs is to develop revenues. And controlling them is a fundamental factor in optimizing growth and achieving profitability. By measuring them, the company avoids the risk of flying blind.

1.1 - What is CAC for SaaS?

CAC measures the marketing and sales expenditure required to acquire a new customer. This fundamental KPI in the management of e-commerce or SaaS startups constitutes an essential data item to be tracked.

The first step is to measure and monitor it periodically.

This indicator is then used to assess the profitability of commercial investments.

1.2 - What are the components of a cost of acquisition (CAC)?

The CAC calculation formula can be summarized as follows:

Total sales and marketing expenditure for period P/number of new customers for period P.

Here is what to include in the calculation, to make sure you cover all the acquisition expenses you have incurred over a given time, or for a given campaign:

• sales & marketing wages allocated to the operation or campaign (not forgetting a share corresponding to the costs of managers);
• marketing expenditure such as Google Ads, Facebook Ads, etc. (SEA);
• search engine optimization (SEO) expenses, including content generation;
• travel, meal, and entertainment expenses for the sales team;
• customer appreciation gifts;
• trade fairs and face-to-face events;
• SaaS tools and subscriptions used for commercial purposes;
• sponsorship and affiliation costs.

1.3 - Why calculate CAC in a SaaS business?

CAC is a major driver of your profitability as a company. If it is too high in relation to sales generated, unit economics dictate that you will lose money with each new customer.

It’s an essential KPI for comparing the effectiveness of each acquisition channel (we’ll comeback to this in the next paragraph).

Tracking and controlling CAC are important criteria for investors. If CAC is not calculated, it’s difficult to raise funds and properly value your SaaS.

CAC is also used to compare the return on investment of different marketing campaigns and channels. It is therefore a method for orienting budgets and optimizing strategy and sales actions. Should I opt for cold emailing or Facebook Ads? CAC analysis will help you to better allocate your spend.

Knowing how much it costs to acquire an average new customer is the first step. The ratio must then be analyzed to get the most out of it.

2 - Analyzing CAC

Here are some guidelines for analyzing CAC in a company. Measuring cost alone is generally not enough to derive the full value of this KPI. What’s important is to take a closer look by period, by channel,by campaign, to compare it against the budget and LTV (lifetime value).

2.1 - Analyze CAC with LTV

LTV corresponds to the total revenue expected per customer over his or her entire lifetime with the company.  

💡 To assess this metric, see our article How to calculate KPIs for SaaS companies?

With this additional information, it is possible to calculate the LTV/CAC ratio. This indicator measures the average revenue generated for a customer, in relation to the cost of acquisition.

A ratio of more than 3 to 1 is considered optimal fora SaaS company: i.e., over their lifetime, a given customer must bring in more than 3 times what it cost you to acquire them. This gives you a margin to pay your other costs.

2.2 - Measuring acquisition costs by segment or channel

The more segmented the CAC calculation, the more finely and efficiently it can be analyzed. CAC must be calculated for each customer acquisition channel, so that these can be compared. The business can then review its investment and strategy if necessary. The key is to be able to identify the channel through which a new customer has been acquired.

2.3 - Compare CAC against defined objectives and budgets

Analyzing the cost of customer acquisition also involves comparing it to the budget. This ratio has a numerator: costs. A company that spends lavishly can quickly run the risk of running out of cash, especially in a growth phase. By setting a budget per campaign and a CAC target, a SaaS or e-commerce startup can control its spending and monitor the achievement of objectives to avoid or correct any slippage.

2.4 - The CAC payback period

It is essential to amortize the cost of acquisition as quickly as possible to achieve profitability. The CAC payback period is a KPI that measures the number of months a subscription must run before you cover the cost of customer acquisition.

💡 CAC payback period = CAC/ARPA.

This is an ROI (return on investment) calculation. It tells you how many months a subscription must run before it covers the cost of acquiring the customer.

Note that this ratio must be analyzed alongside LTV (the longer a customer pays their subscription, the lower the risk of smoothing the CAC payback period).

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3 - Levers for optimizing CAC or LTV/CAC ratio

Efficient sales spending means controlling costs. But it also means maximizing the revenue brought in by the customer, throughout his or her lifetime with the company (LTV).

In this way, the LTV/CAC KPI helps optimize your marketing strategy. Here are several possible actions.

3.1 - Levers for optimizing CAC

There are several possible levers. Here is anon-exhaustive list of actions you can take to increase the number of new customers (and therefore reduce the cost of customer acquisition):

• Work on improving the conversion of prospects into customers, in particular by segmenting campaigns to optimize the message for each target.
• Set up customer referral or sponsorship programs (bearing in mind that this type of action also entails an additional cost).

Reducing expenditure is another way to lower the CAC. Here are some areas to consider in a strategy to reduce the amount spent:

• Work on Search Engine Optimization (SEO), which brings traffic and conversion over time,compared to advertising spend.
• Eliminate the least profitable marketing campaigns and reallocate budget to those with the best conversion rates.

3.2 - Optimizing the LTV/CAC ratio

Retaining customers costs less than acquiring them. To improving retention, the two main levers for optimizing the LTV/CAC ratio are reducing churn (the number of customers who unsubscribe) and improving upsell (the increase in average sales per customer).

By improving the user experience, the company can reduce its churn rate. As a result, it increases LTV (and by the same token the LTV/CAC ratio).

Adapting the offer to the customer’s maturity cycle and integrating a product-led growth strategy are two useful levers for increasing revenues and minimizing acquisition costs.

Finally, maximizing customer-perceived value is another avenue worth exploring. Customer reviews help us to revise our offering by product, with more functionalities and more value, thus more revenue and more LTV. Branding is another way of increasing the perceived value of a software product in its market.

CAC is key for SaaS

But you still need to be able to calculate and monitor CAC over time. Having trouble gathering the information you need quickly and simply? Request a free demo of how our solutions help you calculate all your KPIs, including customer acquisition cost.

💡 Complete your reading with the following articles:

• 3 common mistakes that kill SaaS startups
• Top tips for communicating with SaaS investors
• Automated reporting for SaaS: a quick guide
• KPI reporting at every stage of your startup
• Why is SaaS financial reporting still crucial for your startup in 2023?

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