CAC and CLV — The two most important marketing metrics

If you're running a business there are two metrics that you must know and keep track of. If the ratio between these two metrics are skewed, you're screwed.

These to metrics are called CAC (Customer Acquisition Cost) and CLV (Customer Lifetime Value). I will mostly refer to them by their abbreviations from here on so please remember what they stand for.

Why are CAC and CLV so important?

Most if not all companies spend some kind of money on acquiring new customers. You might spend money on advertising on Google Ads, you might put an ad in the local newspaper or you might pay to attend a trade show. Whatever it is, you are probably spending money on activities that involves getting in front of the right type of people that could buy your product or service.

The reason why CAC and CLV is so important is because it determine your profitability. If you're spending more money on acquiring new customer than what a customer is worth to you, you will probably not be in business for much longer.

Think about it, if you're running a B2B company that spends $1000 on advertisement to get one customer, and the average customer only spends $800 on your service it means you're losing $200.

A little refresher on how to calculate CAC and CLV

I'm always amazed at how many companies that have no clue on how much a customer is worth to them. Many businesses have a fairly good understanding on how much they are paying per lead, but have no idea what their customer acquisition costs are.

So if you're one of them, start doing some math and get your business on track for profitability. I'll show you how to calculate CAC and CLV real quick.

This is how you calculate CAC

It's a fairly easy calculation to do, but you might have to do some research before you can get accurate numbers. I'm talking about the amount of leads being turned into customers. Many businesses I talk to have no clue about this number.

So if you have a sales team, they should be able to give you this number. If you're a smaller business without a dedicated sales team, you might need to do some digging yourself.

First you decide on a period. it could be monthly, quarterly or yearly. It does not matter which one you choose, but a longer time period will give you a slightly more accurate result. Just don't choose a period like 2 years back in time, it has to be recent.

Then you calculate it be following the formula below:

How to calculate cac

This is how you calculate CLV

Calculating CLV is a bit more complicated, and depending on what type of business you run, the calculations might be different. Here I'm gonna show you a simple formula you can use if you're running a B2B company, but this formula will work for other types of businesses as well.

How to calculate clv

What's a good CLV to CAC ratio?

So you might be wondering what's a good CLV to CAC ratio for your business. Let me tell you that there is no perfect CLV:CAC ratio that works for every business model. You as a business owner will know better than anyone what ratio is the best for you.

However, a 3:1 CLV:CAC ratio is generally considered good. If you have a higher ratio that is of course better. 

If you have a 1:1 CLV:CAC ratio, it means you're spending exactly the same amount of money acquiring a customer as a customer spends on you. That's not good at all.

A negative ratio such as 0.7:1 is even worse. That means you're spending WAY too much getting a new customer. If this is the case for you, I suggest to take a look at the sales process or advertising activities. You're either doing a bad job at selling your product or service or you're spending too much on getting leads and customers.

Keep in mind the payback period

There is also a thing called payback period which is basically the period of time it takes to recoup the cost of acquiring a new customer.

We've been through the customer lifetime value calculation and that averages out the value a customer is worth to you. However, depending on the business you have, some customer might end their contract with you before you are able to earn enough money from them.

For example, you might spend $50 acquiring a new customer on your subscription service and your CLV is at $200. But this customer choose to end their subscription early and only ends up paying you $25.

That means you haven't reached the payback period and you lose money on that customer. This can happen in any business and it's a term you should be familiar with as it might impact you business in some ways

To summarize: both CLV and CAC are important metrics you should track

I wouldn't have wrote this article if all businesses did track both CLV and CAC, but that's not the case. Way too many businesses do not know their customer lifetime value nor their customer acquisition cost, and that's worrying.

These metrics are some of the most important once to track regularly, both as a business owner and as a marketer.

I hope you learned something new and you're already thinking about measuring these metrics to create a more healthy and sustainable business.

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