CAC: Calculating customer acquisition cost

So, you've acquired a new customer or client? Congrats! In the business realm, every new customer and revenue source is a victory worth celebrating.

But let's pump the brakes for a second—do you know the price tag attached to that win? 

Enter customer acquisition costs (CAC)—an essential KPI that can signal the health of your business and the efficacy of your marketing efforts at a glance. By understanding your CAC, you gain a sharper perspective on how sustainable and profitable your growth strategies are and, from there, can take the necessary steps to optimize your marketing budget for maximum ROI. 

Understanding CAC 

As the name implies, CAC is the sum of all direct and indirect costs needed to secure a single customer. In simpler terms, how much are you forking over to clinch that new sale?

Think of it as a financial litmus test. Many businesses meet their downfall by miscalculating or neglecting the CAC metric. Because, if you're shelling out more to acquire a customer than what you're making off them, you're not just treading water—you're sinking. 

While the specific marketing costs will be different for every business, some of the more common costs include: 

• Advertising costs

• Marketing personnel salaries

• Third-party agency fees

• Content production costs

• SEO and PPC spend

• Landing page creation and maintenance 

• Market research expenses

• Employee training

• Time spent strategizing and analyzing data 

Equipped with these metrics, a business can dissect CAC per channel, which makes it possible to prioritize the most cost-effective avenues for their customer acquisition strategy. This, in turn, empowers a business to maximize marketing ROI and improve profit margins. 

How to calculate customer acquisition cost 

CAC can be calculated using a customer acquisition cost formula: Total marketing and sales costs / # of new customers acquired

How does this play out in reality? 

Imagine you work in a sales and marketing position for a small eCommerce company. You’re paid $50,000 per year. Over the quarter, you ran five marketing campaigns:

CAC = $11,000 + $10,000 + $12,000 + $15,000 +$10,000 / 3,000 + 2,500 + 2,700 + 3,000 + 2,600 = $4.21

So, for every $5.51 spent on marketing efforts and total sales, you could expect to land one paying customer

LTV and CAC

While CAC offers limited value in isolation, it provides a more actionable perspective when paired with customer lifetime value (LTV). CAC shows the total cost to acquire a potential customer, whereas LTV projects the average revenue you’ll gain from them throughout your relationship. 

The LTV to CAC ratio is your profitability metric. While the ideal LTV/CAC ratio will vary depending on the industry, Michael Hoffman, COO of SBI Growth, suggests you target an LTV:CAC ratio that’s at least 3-1. At that point, each dollar present on acquisition would net three dollars in lifetime value.  Any ratio at or below 1:1 should raise immediate red flags—something needs to change. It signals that you’re spending more than you’re making, which means your strategies aren’t paying off and need to be reevaluated. 

How to reduce customer acquisition cost 

Every penny saved can make a difference in your profit margin. Lowering your CAC not only bolsters your bottom line but can also empower you to reinvest in other growth areas. 

So, how can you prudently trim down those acquisition expenses?

• Reduce customer churn – Here's some food for thought—businesses have to spend between 5 to 7 times more money to onboard a new customer than they do to keep a current one satisfied. By focusing on existing customer retention, you inherently reduce the frequency and cost of seeking out new customers, thus reducing customer churn.

• Segment CAC per channel – Each marketing channel has its associated costs and benefits. By breaking down your CAC per channel, you gain granular insights into where your money is going and, more importantly, the return on investment each channel offers.

• Engage on local platforms like Nextdoor – Building a presence on community-driven platforms such as Nextdoor allows small businesses to tap into a local audience that values and trusts neighborhood recommendations and engagement. This organic growth can lead to higher conversion rates and a lower CAC, as community members are more likely to trust and support local businesses they see and interact with frequently.

• A/B Testing – Regularly test ad copies, landing pages, and promotional offers to determine what resonates most with your target audience. This ensures you're not burning cash on an ineffective marketing strategy.

• Customize landing pages – Tailored landing pages instead of generic landing pages increase conversion by aligning with specific visitor intent, improving customer engagement. When visitors feel the page answers their specific needs or queries, they’re more likely to engage further, thus maximizing advertising dollars. 

• Optimize the sales funnel – Streamline the customer journey from awareness to purchase by removing friction points, ensuring more leads convert into customers with minimal drop-offs.

• Leverage organic traffic – Search engine optimization (SEO) is a long-term strategy that can drive free, high-intent traffic to your website. Investing in content marketing and optimizing on-page elements like meta descriptions, title tags, and internal linking can reduce reliance on paid ads.

• Invest in retargeting – Re-engaging visitors who've previously shown interest in your product or service can be more cost-effective. It’s much easier to market to a warm lead than a cold prospect. These individuals are already familiar with your brand, making them more likely to convert, often at a lower cost than targeting new audiences. Find ways to create a personalized customer experience for this audience to encourage them to convert. 

Lower your custom acquisition costs with Nextdoor 

In a perfect world, you'd acquire every single customer without having any sales or marketing expenses. But, let's be real—few small businesses have the luxury of such organic growth, especially in saturated markets.

Fortunately, platforms like Nextdoor can help you reach and convert customers at much lower costs than other mediums. Instead of splurging on broad, less-targeted campaigns, Nextdoor advertising allows you to access a free, community-driven platform that can put your business front and center among local residents who trust and value recommendations from people nearby. The path to efficient and cost-effective customer acquisition might just begin at your neighborhood's virtual doorstep.

Sources 

CFI. Customer Acquisition Cost (CAC). https://corporatefinanceinstitute.com/resources/accounting/customer-acquisition-cost-cac/

Forbes. Customer Retention Versus Customer Acquisition. https://www.forbes.com/sites/forbesbusinesscouncil/2022/12/12/customer-retention-versus-customer-acquisition/?sh=f6c92b51c7d6 business

Harvard Business Review. The Value of Keeping the Right Customers. https://hbr.org/2014/10/the-value-of-keeping-the-right-customers

Forbes. How To Get The Most Out Of Your Growth Spend. https://www.forbes.com/sites/forbesbusinesscouncil/2022/02/15/how-to-get-the-most-out-of-your-growth-spend/?sh=4560f1af41c0