Customer acquisition cost (CAC) is a metric that shows how much a company spends to get a new customer to buy a product or a service. There are two ways to calculate it. The simple method is to divide the total marketing cost spent on acquiring new customers by the number of new customers acquired in a defined period. The complex method takes into account all the real costs of acquiring new customers like the wages of marketers and other related staff members (e.g., designers), software costs, and all additional outside services. This total cost is then divided by the number of customers acquired in a defined period.
Let’s take an example using the simple method. A company spent $100 on an ad which brought them 10 new customers. Their CAC is then $10. Is it good or bad? Of course, the lower the CAC the better, but without knowing the revenue the customer gives to the company, it is hard to interpret the CAC. If the average customer of this company places an order of $10 or less and only makes one order, then the company is losing money with every acquisition. But if their product costs $25,000 then CAC of $10 is excellent even if the customer only buys once.
To understand whether customer acquisition cost is reasonable, it is usually paired with customer lifetime value (CLV or LTV). CLV is the projected total profit the customer generates during their entire relationship with the company. The perfect CLV to CAC ratio is 3:1. This means that the customer’s value is three times more than the cost of acquiring them. If the ratio is lower, then the company is spending too much on acquiring new customers or they are using the wrong advertisement channels that do not attract their customer segment. If the ratio is higher, then the company should spend more to not lose out on potential business.