Cost per acquisition (CPA) and customer acquisition cost (CAC)

Customer acquisition cost (CAC) is the key metric of the Get Customer Phase in the customer lifecycle which includes all direct cost related to acquiring a new customer. We can break down this cost into Cost-of-Marketing driving lead generation and Cost-of-Selling driving sales strategy. Your customer acquisition cost can tell you whether or not your business can succeed if you compare CAC with your customer lifetime value (CLV). For growing SaaS companies, the industry standard of CLV: CAC ratio is 3:1 or higher. A CLV: CAC ratio of 1:1 means you lose money the more you sell and 4:1 indicates that you have a great business model. 

The basic formula which can be used to calculate customer acquisition cost looks like this:

CAC = (Total Marketing + Sales Expenses) / number of New Customers Acquired

Unfortunately, this popular formula is missing a lot of definitions and details around each variable in the equation to get it right. That’s why even the best basic calculation of CAC can be very misleading.

There are 3 key issues with the basic formula.

First, it doesn’t take into account the time period between when a company spends the marketing/sales money and when it actually acquires a customer. But if we don’t take these time periods into account, we could overestimate or underestimate CAC and it may result in making some terrible operating decisions. That’s why it’s necessary to figure out your marketing/sales cycle.

For example, if an average time from lead to customer is 60 days and we think that sales expenses are spread evenly over that time period, the CAC formula can be as follows:

CAC = (Marketing Costs (n-60) + 1/2 Sales (n-30) + 1/2 Sales (n)) / number of New Customers (n)

Here n= Current Month

The third issue is connected with distinguishing between new and returning customers. To avoid making your CAC looking artificially low, you should always include into the formula the expenses for customer retention and the total amount of new and returning customers.

Cost per acquisition is also often interchangeably referred to as cost per action or cost per lead (CPL) in business models where leads are qualified to prospects before being sold to. This metric can be used to measure effectiveness of your advertising campaigns. CPA measures the cost of acquiring everything but a customer – a product trial, a subscription or a lead. This metric is related to CAC because CPA measures the cost of things that are leading indicators to CAC.

To calculate CPA, you need to take your total advertising spend and divide it by the number of generated acquisitions.

CPA = the total cost of campaign / number of acquisitions

CAC specifically measures the cost of acquiring an actually paying user (a customer). On the other hand, CPA (cost per acquisition) measures the cost of acquiring a non-paying user (not a customer), for example, cost per lead (CPL), cost per signup, cost per registration or cost per activation. Let’s review some examples.

As you see, it’s easy to get lost in the variety of useful business metrics. Still, it’s essential to have a solid business model for your startup. It will help you avoid surprises and will ease your life when searching for investments. There’s much more factors you need to consider when preparing for the next investment raising round. The best way to keep track of all the important criteria and ensure that your presentation is convincing and not missing crucial elements is to use Lean Case. With the help of our system you easily develop comprehensive business models your investors will be grateful for.