Social media followers? Great. Lots of press release impressions? Awesome. Traffic going up? That’s fantastic. While all of these are great tools to help guide your marketing strategy, the reality is that the CEO of your company can’t really hang their hat on anything here. They need concrete statistics that have an impact on the bottom line.
Customer Acquisition Cost
The custom acquisition cost is a simple but important metric: how much does it cost for us to acquire a new customer? That’s critical because if the average cost to acquire a customer is $100 and the average value of that customer to you is $80, then something has clearly gone awry. The marketing practice will not be sustainable if we can’t optimize the CAC.
Before we get to optimizing it, though, let’s take a look at how we calculate the Customer Acquisition Cost:
To calculate what our CAC is, we simply take the sum of all of the sales and marketing expenses we’ve accrued during a given period of time and then divide it by the number of customers acquired in that same span. For example: let’s say your campaign cost $100,000 and you picked up 1000 customers in the process, your CAC is $10. The lower the CAC, the better.
Of course, it will take some time to recover the CAC as not all business see that return immediately. Ideally, you should recover the cost of consumer acquisition within 12 months – if not sooner. Even if you’re a new startup and 12 months might not seem realistic just yet, use 12 months as a barometer and aim for it as your business grows. You’ll want to recover those costs as quickly as possible.
Retention rate is an important metric to be teamed with the attrition rate. Those refer to the efforts of keeping your current customers happy, satisfied and subscribed. If you can’t accomplish that, then they start to cancel and leave, which adds to your attrition rate.
Although many industries differ, the attrition rate can range anywhere from 2% to 40% per year. That means that if you can improve your attrition rate by even 1%, your CEO is going to be very pleased with the bottom line – it has that type of an impact.
Remember that customer acquisition is roughly five times more costly than retention, so it’s crucial to keep your base happy. Let’s take a look at some equations:
Retention Rate = 1 – attrition rate
Depending on your business, you’ll either want to keep an eye on this number on a monthly or yearly basis. For example, if you’re a company like Costco and you have a yearly membership versus a newspaper who allows users to subscribe month-to-month.
The Average Lifetime Value Of A Customer
The lifetime value of a customer (LTV) is the expected return you’ll see from a customer throughout the course of the relationship. For example: GQ magazine might see that their customers average subscription lasts three years and over that time, those customers spend a certain amount of money. Knowing that, they can calculate the average lifetime value a customer can bring them. This is an especially important metric for those who have recurring payments or repeat customers.
There are a number of different ways to calculate the lifetime value of customer but here’s an easy way:
So remember, we have our retention rate calculation above. Now we just multiply the average spend and number of average repeat sales and divide it by the average retention time. That gives us the lifetime value of the customer. As mentioned above, the lifetime value of the customer has to produce more than the cost of acquisition. Otherwise, the business is not feasible. If you’re looking at the business average, the minimum ratio you’d want to aim for is at least 3:1 and 4:1.
CAC Recovery Time
We’ve mentioned the recovery time above, so now let’s get into the details of what it means and how we calculate it. The CAC recovery time is how long it takes for the business to recover the money spent on the acquisition of the new customers. For example, if a magazine company spent $100 to acquire a customer, how long will it take them to recover that money via revenues from that customer.
To get the number, we need to divide the CAC by the average amount of revenue the business expects to receiver from the customer on a monthly basis, which is also known as the margin-adjusted revenue.
So going back to the magazine company, if the average customer spends $10 per month, then the CAC recovery time is 10 months. The industry standard is about 10 months but obviously, the sooner the return the better.
Return On Marketing Investment
When we’re looking at return on marketing investment (ROMI), that’s essentially an equation that’s meant to put a number on what we’re getting out of our marketing. When the CEO crunches the numbers, he’s going to want to see what marketing is producing; this is the bottom line.
The calculation looks like this:
Let’s start with the top half of the fraction. What we want to see here is what gains we’ve made (customers acquired) that can be attributed to the marketing, multiply that by the contribution margin and then subtract how much we spent on marketing. Then we divide the whole equation by the amount we spent on marketing.
This figure is more of an art than it is a science because of the incremental revenue attributable to marketing. That’s where you have to add up the profits from paid media, social media, print media, the website, etc. That can be tricky when you’re running several campaigns simultaneously because it might not be 100% clear which channel the customer was acquired from.
Then to get the marketing spend, you have to add up all of the costs not only for media, but man hours as well. Once you have all of the elements, doing the equation is simple. However, you’ll have to do some data mining to discover those costs.