What is CAC?
The Customer Acquisition Cost (CAC) is a SaaS metric that measures the amount spent on average by a business to acquire a new customer.
How to Calculate Customer Acquisition Cost?
CAC stands for “Customer Acquisition Cost” and is a critical metric in the SaaS industry used to determine the cost efficiency at which a particular company operates.
The customer acquisition cost (CAC) measures the average costs incurred by a SaaS business, per customer – i.e. the amount invested to acquire new customers – to inform a better understanding of the effectiveness of their current sales and marketing strategies at attracting new customers.
In simple terms, the customer acquisition cost (CAC) quantifies the average amount spent by a SaaS company to convince each customer to purchase its products or services.
The long-term economic feasibility of the business model of a SaaS company is ultimately determined by its sales and cost efficiency, where the allocation of capital must generate enough monetary value to offset any spending.
SaaS businesses exhibiting high growth with significant upside potential with regard to market expansion and product development are able to raise funding from venture firms, but that starts off with ideally first reaching a balanced ratio between the customer acquisition cost (CAC) and lifetime value (LTV).
While a company achieving a positive growth trajectory in revenue is perceived to be positive by most, neglecting the spending required to attain the growth would be a costly mistake.
In short, the operating strategies and tactics used to acquire customers is not viable for the long term if the profits retrieved from customers do not exceed the total costs incurred to acquire said customers.
The step-by-step process to compute the customer acquisition cost (CAC) is as follows.
- Determine the Specific Time Frame to Analyze the Customer Acquisition Cost (CAC)
- Calculate the Total Costs Incurred on New Customer Acquisition Strategies
- Count the Total Number of New Customers Acquired in the Selected Period
- Divide the Total Costs Incurred by the Number of New Customers Acquired
The formula to calculate the customer acquisition cost (CAC) is as follows.
Counting the number of new customers who completed a purchase or signed up for a subscription should be relatively straightforward, but identifying the costs can be less intuitive at times.
The following list contains some of the more common types of costs to include in the calculation of CAC:
- Employee Salaries (i.e. Sales and Marketing Team)
- Ad Spend and Marketing Campaigns (e.g. Social Media Ad Placements, Commercials, Billboard Advertising)
- Creative Costs and Production Costs (e.g. Affiliate Marketing, Editing Software)
- Technical Tools (e.g. CRM Software)
- Content Creation and Digital Marketing (e.g. SEO, SEM)
- In-Person Events (e.g. Hosted Events, Trade Shows, Travel Expenses)
- Third-Party Professional Services (e.g. Strategy Consulting Fees)
Customer Acquisition Cost (CAC) Calculator
We’ll now move to a modeling exercise, which you can access by filling out the form below.
1. SaaS Business Operating Assumptions
Suppose we’re tasked with calculating the customer acquisition cost (CAC) of four comparable seed-stage SaaS startups.
Likewise, the number of new customers acquired, gross margin (%), and sales and marketing expenses (S&M) will be assumed to be the same for each companies.
- New MRR = $1k
- Number of New Customers Acquired = 25
- Gross Margin (%) = 60.0%
- Sales and Marketing Expenses (S&M) = $5k
Starting off, we’ll calculate the average MRR for each new customer by dividing the New MRR by the number of new customers acquired.
Since we straight-lined the assumption across all four companies, the average MRR per new customer is $40.00 for each.
- Average MRR per New Customer = $1k ÷ 25 = $40.00
The $40.00 represents the subscription paid on a monthly basis to the SaaS provider by the new customers.
2. SaaS Lifetime Value (LTV) Calculation Example
In the next step, we’ll calculate the lifetime value (LTV) metric for each of the SaaS companies.
However, note the MRR churn rate assumption increases by 0.5% using a step function.
- MRR Churn Rate (%) – Company A = 2.5%
- MRR Churn Rate (%) – Company B = 3.0%
- MRR Churn Rate (%) – Company C = 3.5%
- MRR Churn Rate (%) – Company D = 4.0%
In practice, there are several methods to compute the lifetime value (LTV) metric but we’ll use the following formula to determine the lifetime value (LTV) of each of our SaaS companies.
Upon inserting our assumptions into the LTV formula, we are left with the following figures:
- Company A – Lifetime Value (LTV)= $40.00 × 60.0% ÷ 2.5% = $960
- Company B – Lifetime Value (LTV)= $40.00 × 60.0% ÷ 3.0% = $800
- Company C – Lifetime Value (LTV)= $40.00 × 60.0% ÷ 3.5% = $686
- Company D – Lifetime Value (LTV)= $40.00 × 60.0% ÷ 4.0% = $600
3. SaaS CAC Calculation Example
In the final section of our exercise, we’ll calculate the customer acquisition cost (CAC) for each company, and then insert the LTV and CAC values computed thus far into the LTV/CAC ratio.
The customer acquisition cost (CAC) is determined by dividing the sales and marketing expenses (S&M) metric by the number of new customers acquired.
Since the assumptions are the same for all four companies, the CAC of each company will be of equivalent value.
- Customer Acquisition Cost (CAC) = $5k ÷ 25 = $200
Therefore, the average amount spent to acquire a customer amounts to $200.
4. LTV/CAC Ratio Calculation Example
By dividing the LTV by the CAC for each company, we can determine the LTV/CAC ratios, which will provide insights regarding the cost efficiency of each company.
For example, the LTV/CAC ratio for Company D is 3.0x, the benchmark targeted by most SaaS companies, but recall from earlier that for companies earlier in their lifecycle, a LTV:CAC ratio on the lower end is acceptable and not considered to yet be an issue.
In fact, a lower LTV:CAC ratio implies that the startup is moving quickly and spending capital at an aggressive pace, which is normally expected for startups striving to show the “potential” to disrupt a market in order to raise capital soon after.
The alternative would be an early-stage startup sitting idly, which most investors would not view positively.
Therefore, the implied LTV/CAC ratios of our four SaaS startups are as follows.
- Company A – LTV/CAC Ratio = $960 ÷ $200 = 4.8x
- Company B – LTV/CAC Ratio = $800 ÷ $200 = 4.0x
- Company C – LTV/CAC Ratio = $686 ÷ $200 = 3.4x
- Company D – LTV/CAC Ratio = $600 ÷ $200 = 3.0x
New CAC vs. Blended CAC: What is the Difference?
There are two distinct variations of the customer acquisition cost (CAC) metric: 1) New CAC and 2) Blended CAC.
- New CAC → The new CAC metric focuses solely on the efficiency of the company’s sales and marketing (S&M) spend at acquiring new customers. Since only newly acquired customers are counted, the metric isolates the more challenging (and costly) objective, i.e. convincing a new customer to purchase or subscribe, which is substantially more challenging than upselling or cross-selling tactics to existing customers.
- Blended CAC → In contrast, the blended CAC metric factors in upselling, cross-selling, expansion revenue, etc. Therefore, the efforts related to deriving more revenue from the existing customer base are also considered in the metric. Fewer costs are incurred compared to new customer acquisitions, as these existing customers have already purchased a product or subscription in the past, which makes the sales and marketing (S&M) team’s job much easier.
B2B SaaS Customer Acquisition Cost Calculation Example (CAC)
For instance, suppose a B2C SaaS startup incurred a total of $20k in sales and marketing (S&M) expenses in Q1 of 2023.
The outcome? The startup acquired 500 new customers over the period.
Given those assumptions, the cost to acquire each customer, on average, amounted to $40.00 in Q1-2023.
- Customer Acquisition Cost (CAC) = $20k ÷ 500 = $40.00
Note: The formula to determine the customer acquisition cost (CAC) must count only the new customers acquired in the pre-defined period.
What is a Good CAC for SaaS?
Customer acquisition cost (CAC) as a standalone metric is not too informative by itself.
Instead, the CAC metric must be analyzed in conjunction with the customer lifetime value (LTV) metric to derive practical insights regarding the operating efficiency of a given SaaS company.
Conceptually, the customer acquisition cost (CAC) is the “hurdle rate” that the lifetime value (LTV) must exceed in order for the SaaS companies to be profitable.
In the SaaS industry, an LTV/CAC ratio of 3.0x is widely recognized as the standard target benchmark.
Hence, most SaaS companies strive to meet quarterly targets to reflect an upward trajectory, converging toward a 3.0x ratio, as part of their internal strategic planning. In effect, SaaS startups must constantly be optimizing their sales and marketing channels and tactics to acquire new customers to ensure the LTV:CAC ratio is on the right track of positive progress.
So, what does an 3.0x LTV/CAC ratio mean?
The 3.0x LTV/CAC ratio implies that for each dollar allocated to acquiring new customers, the company earns $3.00 in return.
How to Analyze LTV to CAC Ratio in SaaS Industry
The customer lifetime value (CLTV), or lifetime value (LTV), estimates the revenue that the average customer generates for the company over the course of their time as an active customer.
The LTV/CAC ratio, or “Lifetime Value to Customer Acquisition Cost”, is a fundamental SaaS metric that measures the operating efficiency of a SaaS business.
By comparing a SaaS company’s lifetime value (LTV) to its customer acquisition cost (CAC), the resulting figure – the LTV/CAC ratio – measures the return on investment (ROI) earned per dollar spent on acquiring new customers.
- Lifetime Value (LTV) > Customer Acquisition Cost (CAC) → Viable Long-Term Business Model
- Lifetime Value (LTV) < Customer Acquisition Cost (CAC) → Unsustainable Business Model
Early on, the LTV/CAC ratio of most SaaS startups in the initial stages will be lower since management is rather unlikely to have figured out yet the most effective sales and marketing (S&M) strategies to acquire new customers, the optimal pricing strategy, and the end market(s)to focus on based on the target customer profile, among various other factors.
But over time, the LTV to CAC ratio of the SaaS startup must demonstrate tangible improvements as the company moves beyond the early stage of its overall lifecycle.
Otherwise, raising capital from venture firms to fund plans to drive growth and expansion strategies to increase scale will be difficult, especially amid unfavorable market conditions.
Therefore, SaaS companies pay close attention to their LTV/CAC ratio and aim to optimize their operational strategies and business model to extract more revenue from customers, while reducing the costs incurred to acquire new customers.
How to Reduce Customer Acquisition Costs (CAC)?
The following table contains common methods used by SaaS companies to reduce their customer acquisition costs (CAC) and improve their LTV to CAC ratio.
|Know Your Customer (KYC)||
|Value > Cost||
|Perform Cohort Analysis||