Customer Acquisition Cost (CAC): Definition, Formula, and How To Improve It

Growing a business means bringing in new customers. But doing that costs money. Customer acquisition cost (CAC) is one of the most important metrics for understanding the efficiency of your sales and marketing efforts.

Whether you’re a startup trying to stretch a small budget or an established company looking to grow, knowing your CAC can help you make smarter decisions about where to invest and when to pull back. Here’s how to define CAC, how to calculate it, and how to improve it.

What Is Customer Acquisition Cost?

Customer acquisition cost refers to the cost of acquiring a new customer. In other words, it’s the amount of money that your business spends to convince a new customer to consume your products or services. It’s a key business metric, essential for creating accurate financial projections.

As you’re figuring out what your customer acquisition cost is, it’s important to remember how many expenses it covers. CAC encompasses all sales and marketing expenses, including the cost of campaigns, sales team salaries, advertising expenses, and any other associated overhead.

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How To Calculate CAC

To calculate CAC, divide total sales and marketing costs over a given period by the number of new customers generated during the same timeframe.

For example, if your small business budget included $10,000 for marketing over one month and you acquired 100 new customers in that time, your CAC would be $10,000/100, or $100 per customer.

What To Include in Your CAC Calculation

As you define CAC for your business, be sure that sales and marketing costs include your spending on advertising across all channels, including online, social media, and legacy media, such as radio, print, and television.

Also include salaries and commissions for your employees who work in sales and marketing. Add in the cost of software that you use, such as customer relationship management or mail automation software. And finally, include any other overhead costs, such as travel to industry events or training.

What Is a Good CAC?

There is no “good” CAC, per se, in part because the metric varies widely by industry. But to get a sense of whether your CAC is healthy or not, you can compare it to customer lifetime value (CLV). Once you do, it’s possible to benchmark your CAC against those of other similarly-sized companies in your field to get a sense of how you’re doing in comparison.

CAC vs Customer Lifetime Value (LTV)

CLV, also called LTV, is a business metric that represents the total revenue that you can expect to earn from a single customer over the complete life cycle of their relationship with your company. One way you calculate CLV is by multiplying the average transaction value by the average number of transactions and the customer lifespan with the company.

For example, if, on average, a customer spends $50 per transaction across two purchases per year over the course of five years, then the average CLV will be $500.

Once you have this figure in hand, you can compare it to CAC. In fact doing so produces an important small business financial ratio. As a general rule of thumb, the ratio of CLV to CAC should be 3:1 or higher. If it’s 1:1, then you’re only breaking even. And anything higher than 3:1 suggests that your business is very profitable and you could even think about spending more aggressively on customer acquisition to generate further business growth.

How To Reduce Customer Acquisition Cost

If your CAC is too high compared to your CLV, you may need to find ways to reduce your CAC and increase your business’s financial performance. The good news is that there are a lot of potential levers you can pull.

First, take a close look at your marketing. Be sure that you’re tracking CAC by marketing channel in addition to capturing an average. That way, you can see what your higher-performing channels are. Double down on these and consider dropping channels that are underperforming. You may also want to focus on channels that have high upfront costs but little cost per customer after that, such as SEO or content marketing.

Additionally, think about retargeting campaigns that direct efforts to potential customers who have already shown interest. This can be more effective than simple cold outreach.

You may also want to consider ways to improve your conversion rates. For instance, you might want to A/B test landing pages, ad copy, and calls to action so that you can home in on the most effective ways to communicate.

It can also help to reduce friction in the signup or purchase process. You may want to invest in gathering a few reviews or case studies that can help convert prospects who are on the fence.

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CAC by Marketing Channel

We mentioned above that it can be a good idea to break down CAC by marketing channel. This helps you identify exactly where the bulk of your customers are coming from and what is producing a good return on investment.

Be sure to consider organic channels, such as content marketing, SEO marketing, and social media marketing. Include inorganic channels as well. These are paid channels, such as television ads and paid ads on social media.

The Takeaway

Your CAC is a powerful signal of your business’s health and growth potential. By keeping close track of it — by marketing channel — you can continuously test and refine your approach to acquiring new customers. Even incremental improvements can add up to significant savings over time, helping your business continue to grow.

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FAQ

What is the difference between CAC and CPA?

Customer acquisition cost (CAC) is the total cost of the sales and marketing efforts required to gain one new customer. Cost per acquisition (CPA) is a similar metric, but refers to the cost of acquiring a lead. A lead is a potential customer who has shown interest in your company and provided some sort of contact information.

How often should I calculate my customer acquisition cost?

Consider calculating your CAC monthly for ongoing analysis and quarterly or yearly to get a sense of longer sales cycles.

What is a good LTV to CAC ratio?

As a general rule of thumb, you will likely want an LTV to CAC ratio of around 3:1. That said, healthy ratios may vary by industry.

Why is my CAC increasing and what can I do about it?

If your CAC is increasing, you will likely need to find ways to reduce marketing costs, focusing on marketing channels that provide the best return on investment, and considering ways to improve conversion rates.

How does CAC differ by industry?

CAC rates can vary widely by industry. Highly competitive industries may have higher CAC due to limited customer pools, for instance. Longer sales cycles for B2B companies could also drive up CAC. E-commerce or retail businesses, on the other hand, may see relatively lower CAC.

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