The Impact of Understanding Customer Acquisition Costs and Customer Lifetime Value
It’s guest post day here at Duct Tape Marketing, and today’s post is from Dan Kraus – Enjoy!
Have you heard someone talk about customer acquisition cost (CAC) or customer lifetime value (CLV or LTV)? If you’re in the tech business, and especially if you work with SaaS products, you’ve definitely heard of, and can likely calculate, these values. If you’re not in the tech industry, you should learn about these numbers, as they have enormous value for businesses of every type and size.
CAC is how much you spend to acquire a customer. In the simplest of calculations, it’s the amount you spend on sales and marketing divided by the number of customers you get during the period you’re measuring.
CLV is the net value of a customer to the company–how much money a customer spends during their entire relationship with you, minus the costs of products and services they buy.
Used together, these numbers help drive your overall business strategy, including your marketing approach.
Here’s a simple example. I met with a plumbing services business that cleans out drains as their primary business. We talked about their starter offer (how they get new clients in the door), which focused heavily on emergency clog removal through their 24-hour hotline.
They historically charged $149 for an emergency cleanout. Their loaded cost to do this, including technician time, vehicle wear and tear, and materials, was about $70. They wanted to clear a net profit of 20% ($30). Backing the cost and profit allocation out, we had $49 left to cover marketing and non-allocated overhead. After talking, we determined we needed to acquire a job/customer for $35 if the emergency clog removal was all they sold–a very challenging number to achieve in a market as big and competitive as Charlotte.
So we talked about the lifetime value of a customer. Less than 10% of the customers they worked with bought any other services–on the first service call or in the future–and their additional purchases were around $200. After taking out costs, we determined that their average CLV was approximately $42. They quickly understood that they needed new business strategies if they were going to grow.
They needed to increase the lifetime value of a customer. If they did, they could afford to spend more to acquire new customers. This realization drove them back to business planning because they needed to make decisions about customer service, cross-sell and up-sell plans, marketing to previous customers, and even compensation plans for their techs.
No matter what business you’re in, you can figure out your CAC and CLV and use the numbers to support or change your strategies and tactics. If you’re in professional services, use the numbers to understand if you need to focus on getting more repeat business or acquiring new customers. If you sell products in a brick-and-mortar store, the numbers will help you plan your promotional budget and adjust your product mix. If you’re a local services business–plumbing, car repair, landscaping, etc.–you can use your CAC and CLV values to determine how much you should spend on marketing to new customers versus providing better service to current clients.
John makes the point in this blog post that CLV is unlimited if you have delighted customers because they refer you, and those referrals have no CAC. If those referrals then refer you again, you end up in a virtuous cycle. I couldn’t agree more, but you have to start that cycle somewhere, and that somewhere is understanding where you are now so you can be smarter about where you invest going forward.
So, break out the spreadsheet and get some help from your bookkeeper, accountant, or financial advisor to figure out a basic cost of customer acquisition and customer lifetime value.
Those numbers will help you answer critical questions like:
- How much should I budget for marketing based on the goals I have for gaining new customers this period?
- How much should I be investing in customer delight, customer experience, and customer support?
- Where should I focus my sales team and how should I structure their compensation plans for the results I want?
- Which products or services should I concentrate on to get the customers I want to work with, and who are also profitable for our company?
Want to learn more? Try these other resources:
Dan Kraus is the founder and president of Leading Results, a marketing consulting agency based in Concord, North Carolina. Through his firm, Kraus helps business owners develop a marketing strategy that empowers them to be self-sufficient and ensures their long-term success. Find him on Twitter, LinkedIn, or on his blog.