If you could only use two data points to evaluate a business’s health, you’d probably choose customer lifetime value (LTV) and customer acquisition cost (CAC). In other words, you’d want to know how much money, on average, a customer will spend at the business—and how much it cost to acquire them in the first place. Pretty straightforward, right?
Not so fast.
Using acquisition cost to track performance comes with a big caveat: There are different ways of interpreting and measuring CAC, and you need to be sure you’re using the right formula for your needs.
If you're a founder raising capital or an investor: fully loaded CAC
In this case, you need the most comprehensive interpretation of CAC possible. That’s fully loaded CAC, which may sound like a pizza order, but is actually a measurement that includes every single cost associated with your acquisition effort.
Fully loaded CAC = Total cost of everything associated with acquisition / Total net new customers.
When I say everything, I mean everything. Fully loaded cost includes:
- Wages/salaries associated with marketing efforts, like a marketing manager, customer service salaries as a portion of the time spent on new customer acquisition, and PR efforts
- Overhead, like office rent and desk space for those employees
- Creatives (designers, writers, etc.), consultants, and legal services to create their contracts
- Advertising spend for net new customers
- Tools and platform costs, like the percentage of your marketing software costs that are dedicated to reaching new customers
- Discounts and other special offers for net new customers
The process of defining and gathering all this data is time-intensive, complicated work. Whose salaries should be counted? What about an employee who handles both customer service and other administrative tasks? How do you determine what percentage of your technology is used for acquisition?
Fully loaded CAC is overkill for marketers. But if you’re trying to raise capital—or, conversely, if you’re kicking the tires to see if a business is worth your investment—these details might matter. The customer LTV to fully loaded CAC ratio is a clear measure of how efficiently the business can scale. It’s also worth checking over time, to see how the ratio changes. Many businesses find that CAC increases eventually, as they acquire high-intent prospects first, then have to work harder to convert new customers. Of course, if that increase is offset by higher customer LTV, you’re still in good shape.
If you're a marketing manager: blended and/or paid CAC
Marketers use CAC to evaluate growth channels and allocate resources, and you can get a good enough measure without spending weeks crunching numbers. The key is establishing parameters and maintaining them over time, so you’re always measuring apples to apples.
There are two CAC models that make sense for marketers: blended and paid. Let’s look at blended CAC first.
Blended CAC = Sales and marketing expenses (excluding salaries and overheads) / Total new customers acquired.
The key distinction between blended and fully loaded CAC is that salaries and overhead costs are excluded from blended. This model assumes that all marketing efforts support each other, which is a sensible assumption to make. It also factors in total new customers, whether they were acquired through paid or non-paid channels. With blended CAC, a little data-wrangling can generate big insights.
Paid CAC = Sales and marketing expenses (excluding salaries and overheads) / Total new customers acquired via paid channels.
But sometimes you want a more precise performance measure, and that’s where paid CAC comes in. Like blended CAC, this model excludes salaries and overheads. Then it goes a step further by counting only new customers acquired via paid channels. If your goal is to measure paid channel effectiveness, paid CAC is the way to go.
The challenge with paid CAC is attribution. Every platform has its own attribution model, and the path to purchase isn’t always as straightforward as Zuck would have you believe. So, before you get started, define your attribution rules and be sure they’re consistent in future calculations.
(Side note: Investors may also be interested in your paid CAC numbers. It lets them know how well your campaigns perform now—and from there, they can estimate whether an infusion of cash will lead to growth.)
Before you can make decisions based on customer acquisition cost, you need to know what you’re using CAC for. Choose the model that best fits your goals, clarify what gets factored into both sides of the equation, and be sure your inputs stay the same each time you replicate the analysis.