What is customer acquisition cost (CAC)?
Simply put, your customer acquisition cost is how much it costs your business to acquire a new customer. It’s a metric which compares the amount of money spent on attracting customers versus the number of customers actually secured. CAC is a key metric tracked by businesses over time to assess their profitability.
Marketing plays an important role in customer acquisition because it encompasses all the channels your customers can find you through, and the resultant costs thereof. From social media and guest blogs to paid advertising, the methods you choose to market and grow your subscription business can send your CAC skyrocketing or plummeting.
Why is CAC an important metric to a subscription business?
CAC is used by companies to determine their marketing ROI across all their acquisition channels. From a high level, CAC is fundamental to business growth and profitability as customer acquisition costs that are too high indicate an unsustainable business.
Successful companies consistently strive to reduce their customer acquisition cost because it’s an indicator of sales, marketing and customer service health, but where do they start? Before anything else, they look within… their company. Indeed, understanding your customer acquisition cost is a crucial first step toward reducing it.
Without understanding how much it costs your subscription business to acquire a new customer, you’ll find it hard to determine the financial viability of current initiatives to acquire customers, and make informed decisions as to where to allocate resources in the future. We dig into this more below.
How to calculate customer acquisition cost
To calculate your customer acquisition cost, you add the costs associated with converting potential new customers into paying customers (through marketing or advertising, for example) and dividing that amount by the number of customers acquired.
Customer acquisition cost formula
To find your customer acquisition cost, you can use the following formula:
CAC = (Cost of sales + cost of marketing) / Number of new customers acquired
For example, if a business spent $1,000 on sales and marketing in one year, and acquired 1,000 new customers in the same time period, the CAC would be $1 because $1,000 divided by 1,000 customers is $1 per customer. But it’s not quite that simple.
Calculating total expenditures can involve a lot of factors. If you’re wondering which costs to include as part of the ‘total cost’ of your sales and marketing, you should consider:
- Production costs
- Ad spend (i.e. pay per click advertising)
- Employee salaries (even what you pay yourself)
- Content creation costs
- Social media marketing costs
- Paid reporting tools
- Loyalty programs
- Overhead costs (i.e. inventory upkeep if you keep stock to send as free samples)
The added challenge is spending enough to drive new customer acquisition without sacrificing customer lifetime value (LTV). Customer lifetime value is the revenue that each new customer acquired brings your business over the course of their entire relationship with you.
Customer lifetime value becomes an increasingly crucial business metric important the longer the relationships you’re building with your customers get – a particularly relevant point in the context of a subscription business model focusing on recurring revenue. Being aware of your customer lifetime value means you as a business can develop better customer acquisition and retention strategies.
Subscription businesses often compare CAC to the LTV as a key indicator of business performance. Generally, the ideal CAC:LTV ratio is considered to be 3:1.
CAC in practice: Examples for subscription businesses
Let’s look at a few hypothetical customer acquisition cost examples. say you run a succulent subscription box called ‘You Succ’. For the first quarter of the year, your marketing spend included social media ads and SEO content, a sales platform subscription, and salaries for your marketing and sales teams. This came to a total of $20,000. In the same period, you acquired 1,000 new subscribers. To find your customer acquisition cost, you divide $20,000 by 1,000, giving you a CAC of $20.
Let’s look at another example. You have a subscription-based DIY content platform called ‘Hammertime’. Last month, your paid advertising, content marketing costs and salaries of your team members came to $10,000. Last month you also acquired 20 new customers. So, 10,000 divided by 20 gives you a CAC of $500.
But what’s a good CAC? It varies based on industry, however the average customer acquisition cost for a small ecommerce business with four employees or less is around $58.64.
What are some ways to reduce CAC?
Fortunately, subscription businesses are primarily focused on retaining customers with acquisition being a secondary focus. Why is this lucky? It costs more acquiring customers than it does to keep existing customers ⸺ up to five times more.
Reducing your customer acquisition cost means that your subscription business is spending money more efficiently and, thus, should see higher profit. It makes sense, then, to keep your customer acquisition costs as low as possible. Here are a few aspects of your marketing strategy to consider when trying to improve customer acquisition cost.
Tip 1: Customer referrals and advocacy marketing
If a customer refers a friend or family member to your subscription service, they are considered a ‘warm lead’. These customers are typically easier to convert and, as you’ve spent very little in acquiring them, they will lower your CAC over time.
It’s highly recommended to curate an appealing customer referral program. Consider offering rewards for friend referrals, including discounted rates, membership points or freebies. It’s your way of saying ‘thank you’.
Tip 2: Focus on your most successful channels
Not every campaign works and, as the saying goes, insanity is doing the same thing over and over and expecting different results. It’s ill-advised to continue investing in marketing efforts and sales strategies which aren’t generating a good response. Google Analytics is a useful tool for identifying which strategies are and aren’t working, as your conversion data will help you understand which channels are most successful.
Some of the most popular channels subscription companies utilise are organic social media, SEO-optimized content marketing and email campaigns. Each of these have proven success rates in subscription commerce, but your own research and experiments will dictate which channels are the right fit for your business. The channels you want to prioritize are those with high conversion rates. By focusing on these strategies and dropping the low performers, your customer acquisition cost will benefit.
Tip 3: Implement a CRM
Using a CRM (Customer Relationship Management) system allows you to monitor customers and their movement through your sales funnel. It also allows your sales team to manage leads and prioritize prospects who are more likely to convert.
You can also communicate with your database through a CRM. Some systems will allow you to create groups based on habits, demographics and purchase history, meaning you can send timely and relevant messages to the customers you want to engage with.
Tip 4: Increase the value of your offering
This can mean different things for different businesses, but increasing the value of your service doesn’t have to mean more money spent. You could, for example, offer a loyalty program in which customers accrue points to make future purchases, earn VIP perks or access high tier content. Alternatively, you could include small samples or freebies. This is also a great strategy to promote new products and even generate sales.
A high value offering also makes new customers more likely to remain loyal subscribers. This helps keep your customer acquisition cost down and your lifetime value up. In converse, having a high subscription churn rate (that is, a lot of people opting out of your service in a given period) will inevitably lead to a high CAC, as more money needs to be spent on acquiring new customers.
No matter what kind of subscription business model you’re running, above all, being aware of your customers and their journeys is the first and most important step in customer acquisition. Having a good product is a great start, but your business likely won’t be successful if your marketing efforts aren’t directed to the right people and in the right way. Take the time to analyze your data, including which channels are and aren’t performing, and optimize from there.
Being aware of the marketing expenses and costs to bring in new customers can help you make informed business decisions and forecast business profitability. It’s worthwhile taking the time to calculate customer acquisition costs so you can better allocate your resources and maximize your success as a subscription business.
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