What is CAC (Customer Acquisition Cost)? Explanation of calculation method and measurement procedure of SaaS business soundness

If the CAC is too high, the business will not be profitable, but if it is too low, it is not a sound business investment.

In this article, we will reorganize the reasons why CAC should be measured and explain the ideas and know-how necessary to develop business with CAC on your side.

Table of contents

“CAC” is an abbreviation of “Customer Acquisition Cost”, which means “customer acquisition cost” in Japanese .

Specifically, it refers to the marketing and sales costs required to acquire one customer, and is calculated by dividing the total amount of marketing and sales costs invested over a certain period of time by the number of customers acquired. To do.

The formula for calculating CAC is as follows:

• CAC = customer acquisition cost ÷ number of customers

If this CAC exceeds LTV (Life Time Value) , it can be said that the survival of the business will be very difficult.

If CAC exceeds LTV, it means spending 5,001 yen or more on acquisition costs per customer for a service with a lifetime profit of 5,000 yen per customer.

In other words, it becomes a very nonsense business activity because there is always a loss every time you acquire a customer.

If your CAC is below your LTV, you’re making a profit, but you need to keep your CAC below 1/3 of your LTV for good business results .

For the rationale for this metric, see Chapter 4, What is the SaaS formula: LTV/CAC > 3x? ” explains.

Difference from CPA

A word similar to CAC is CPA (Cost Per Acquisition). This also means “customer acquisition cost”, but the scene that is mainly used is different.

CPA is mainly used in digital advertising and is an indicator of whether each measure is effective.

CAC, on the other hand, measures whether marketing costs were appropriate in SaaS.

Relationship between CAC and LTV

LTV (Life Time Value) refers to the profit that one customer or one company brings to a company during their lifetime. This is a particularly important indicator for SaaS, which is mainly a subscription-type business, and the longer you use it, the more LTV will increase.

LTV is profit, and if CAC, which is the cost paid to obtain that profit, exceeds this, the business will continue to lose money.

Before going into the explanation of the calculation method of CAC, it is good to keep in mind that CAC can be broadly classified into the following three types.

• Organic CAC
• Paid CAC
• Blended CAC

Let’s take a closer look at the classification of these three types of CAC.

Organic CAC

Represents the natural increase in customer acquisition cost. For example, referrals from existing customers, word-of-mouth, and inflows from searches are classified as “Organic CAC.”

Organic CAC was able to attract customers without paying for advertising . Organic CAC is often cheaper than CAC that pays for advertising.

When launching limited-time campaigns, insert leaflets, or web advertisements, we calculate the number of customers and costs in order to see the effectiveness of the advertisements and campaigns. However, the CAC is not only due to launching advertisements. Some CACs grow naturally without running campaigns or ads.

If you calculate CAC without considering Organic CAC, you may not be able to measure the correct effect, so let’s understand Organic CAC as well.

The calculation formula for Organic CAC is as follows.

• Organic CAC = Cost of Attribution Customers / Number of New Customers from Attribution Channels

Paid CAC

Paid CAC represents the cost of customers acquired by starting and paying for advertising .

Paid CAC has various Paid CACs for each company’s strategy, and can be calculated according to each advertising channel, so let’s classify them properly.

The formula for Paid CAC is as follows.

• Paid CAC = cost spent on paid channels ÷ number of new customers from paid channels

If Paid CAC exceeds LTV, the more advertising you do on that paid channel, the more likely you are to lose money.

Therefore, it is recommended to verify each paid channel.

Blended CAC

Blended CAC represents the combined customer cost of “Organic CAC” and “Paid CAC” .

Blended CAC can be calculated as follows:

• Blended CAC= (total operating costs + total marketing costs) ÷ number of new customer acquisitions

As the SaaS business grows steadily, there is a possibility that it will hit a certain wall.

It is a wall that says , “The number of customers is steadily increasing, but the profit continues to be in the red. Should we abandon the increase in the number of customers and turn the business into the black? Or should we continue to pursue the increase in the number of customers?” is.

We can’t afford to remain in a state of no profit, and we can’t slow down the speed at which we acquire customers. Of course, neither can be discarded.

In such a case, subdividing the CAC can be used effectively for the next strategic planning.

In the situation where “the number of customers continues to increase, but it is not possible to monetize”, we simultaneously plan a “strategy to increase organic CAC” and a “strategy to streamline and reduce paid CAC”. A larger reduction reduces the Blended CAC.

By striving to lower CAC, we can improve profitability without hindering customer growth.

So why should you know your CAC? There are two main reasons:

1.  To understand which marketing channels to invest in
2.  To measure unit economics

Let’s take a closer look at each reason.

1. To understand which marketing channels to invest in

If you’re investing in multiple customer acquisition channels, you’ll have low-cost, high-margin channels and low customer acquisition channels.

It is important to calculate and understand the CAC for each channel in order to identify such differences for each channel .

The return on investment changes day by day. Getting your CAC right lets you focus your investments on the most effective customer acquisition channels.

2. To measure unit economics

Unit economics is a measure of profitability per customer.

Unit economics are healthy if the customer lifetime value (LTV) per customer divided by the customer acquisition cost (CAC) per customer is greater than or equal to 1.

The unit economics formula is as follows:

• Unit Economics = LTV ÷ CAC

Especially in the SaaS business, which has a long payback period for investment, it is essential to calculate profitability using unit economics.

Consider, for example, a SaaS business that exhibits KPIs (employee performance indicators) such as:

• ARPU (customer average monthly unit price): ¥1,000
• Gross profit margin: 80%
• Net Revenue Churn Rate: 3%
• CAC (customer acquisition cost): 5,000 yen
• LTV (customer lifetime value): 26,666 yen (1,000 x 0.8 ÷ 0.03)

Looking at the above figures alone, you may feel that 5,000 yen of advertising investment is too high to acquire customers with monthly sales of 1,000 yen. But let’s focus on unit economics here.

Unit economics = 26,666 (LTV) ÷ 5,000 (CAC) ≒ 5.3

In other words, you can see that this business is “more than five times more profitable per user than the investment in customer acquisition.”

In addition, these numbers can also be read about another important SaaS business, the “CAC Payback Period”.

The CAC payback period calculation formula is as follows:

• CAC payback period (months) = customer acquisition cost ÷ (customer average unit price × gross profit rate)

So in the example above,

CAC payback period = 5,000 ÷ (1,000 x 0.8) = 6.25 (months).

In general, the standard CAC payback period is 6 to 12 months, so the profitability of this product can be considered sufficient.

By carefully looking at the numbers of various indicators in this way, it becomes easier to make investment decisions.

In general, “LTV is 3 times or more than CAC” and “CAC Payback Period (customer acquisition cost recovery period) is within 12 months” are often used as criteria for investment in Series A.

This formula expresses the “unit economics” mentioned above.

This is a figure that will definitely attract attention when explaining the business to investors . Be sure to hold the point.

Because the following golden rules of SaaS business hold:

If “LTV is three times CAC” and “Payback period is 12 months”, it can be considered that the business is growing steadily.

In other words, if “LTV is 3 times CAC” and “Payback Period is 12 months”, “Average usage duration is 36 months” is automatically calculated. Calculating the Churn Rate, which represents the churn rate, from this yields a figure of about 2.8%.

The ideal churn rate for B2B SaaS businesses is less than 3%.

How to maximize your LTV

For a healthy SaaS business, it is effective not only to lower CAC but also to raise LTV .

In order to increase LTV, it is important to build a relationship of trust with customers and strive to solve problems as quickly as possible. This will reduce customer churn and increase LTV.

To build a relationship of trust with customers, use customer management tools such as CRM and SFA that will be introduced later.

When you know where your customers are dropping off, you can improve your communication in that customer channel.

If you have read this far, I hope you have understood that the key to running a SaaS business is to “increase LTV and decrease CAC” .

However, there is one thing that you should be careful about. That is, ” It is not enough to just keep lowering the CAC .”

Although it is an extreme figure, if the LTV is 10 times the CAC, it can lead to the judgment that the investment is not appropriate. When presented with figures such as those above, investors will comment, “Isn’t there a lack of aggressive investment?”

In other words, the CAC cannot be set too high or too low.

We have to control the investment amount of CAC with one standard of “LTV is 3 times of CAC” as a guideline.

And at the stage of putting the investment amount into concrete tactics, it is necessary to check both “Organic CAC” and “Paid CAC” in detail.

In order to achieve the target CAC, there are the following measures.

Introduction of tools that can manage customers

By introducing tools that can manage customers, such as CRM, SFA, and MA, you will be able to manage customer status efficiently.

If the approach to each customer can be managed by the system, it will lead to timely investment and reduction of time costs.

Decide which tool to use based on your industry and your business.

See below for more information on customer management.

Ad optimization

If you can understand the CAC for each customer acquisition channel, you can see which channels are putting pressure on cost effectiveness.

If you invest in multiple ads, you can focus on what works and improve your CAC.

Improved CVR

Increasing your CVR (conversion rate) directly leads to lowering your CAC.

This is because higher CVR means more customers acquired at the same cost. It is not easy to increase CVR, but you can take measures such as identifying targets that are more likely to convert, and using the above tools to find and improve the areas where withdrawal is occurring.

Let’s look at the cases of companies that lowered “Blended CAC” while checking “Organic CAC” and “Paid CAC” in detail.

Dropbox case study

Dropbox has launched a “referral campaign” as it is challenged by soaring web advertising costs.

By introducing Dropbox to a friend, both the person who introduced and the person who was introduced can get additional storage.

I myself have memories of using this campaign, but by promoting introductions by existing users, it is a very smart strategy that simultaneously achieves both “increasing organic CAC” and “improving efficiency and lowering paid CAC”. I can say

Case of Uber Technologies

The strategy developed by Uber Technologies was a campaign to distribute free Uber tickets to both referrers who are existing users of the provided application Uber and newly registered users who were introduced.

The amount is about 2,000 yen in Japanese yen, but it was a campaign that the more Uber users and drivers, the greater the value of that amount. contributed significantly to the acquisition of , and reduced CAC.

Both the strategies of Dropbox and Uber Technologies, Inc., created a sense of challenge while continuing to ascertain the balance between “Paid CAC” and “Organic CAC”, and this is a measure that was found to solve the problem.

In order to make the SaaS business successful, it is important to carry out measurements using the CAC introduced so far.

CAC refers to the cost of customer acquisition, and if the cost exceeds the LTV, it will not be viable as a business.

In order to confirm whether the SaaS business is established as a sound business, it is necessary to measure whether the CAC exceeds the LTV.

In addition, rather than simply checking whether the LTV is exceeded, by setting benchmarks and making comparative judgments by setting baselines such as quarterly, first and second half, and yearly, we can make a sound SaaS business. You will be able to judge whether it is progressing as

The measurement procedure is as follows.

1. Set the period
   First, set the period for CAC measurement. Since it varies depending on the product and industry, it is necessary to have indicators for each company.
2. Calculate sales and marketing costs Calculate the
   sales and marketing costs required to acquire new customers and obtain the total value.
3. Determine the number of new acquisitions
   Determine the number of new customers acquired during the period.
4. Divide the cost by the number of customers
   Divide the number of new customers by the cost calculated by 2.
5. Measure whether the LTV is exceeded
   Determine whether the calculated CAC exceeds the LTV.
6. If the LTV that measures the CAC payback period
   exceeds the CAC, the next CAC payback period is important. Check how long it took to collect the CAC.
7. Determine whether the CAC recovery period can be reduced
   Determine what can be done to shorten the CAC recovery period, and repeat measurement and optimization while implementing measures.

There are quite a few companies that think about marketing in the direction of “just lower the CAC!”

If you succeed in lowering your CAC, you will have more room to invest in acquiring the next customer. And we will continue to be required to find new channels to acquire the next customer, without having excess capacity.

Rather than just “reducing CAC anyway”, continue to subdivide as much as possible and keep an eye on CAC . You will need it to keep going.