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Marketing Thought, Sales and Marketing Allignment

The Battle for Customer: Fundamental of CAC and CLV (First Part)

Gaining ‘mind share’ remains one of the best strategies for company to position its products and services. This mind share works for both Customer Acquisition (in case of potential customer) and Customer Retention (in case of existing customer). In the age of heightened customer expectations and widespread sharing via social media, positive customer experiences have witnessed the significance like never before. Companies are bleeding beyond capacity to acquire and retain customer, which question its survival in such a high-stakes struggle.

The modern business implies acquisition of customer is all about convincing people to buy or use your products or service. And customer retention means, making the customer continue do business with you. But it’s not that simple as the definition.  As a marketer, you need to make a reasonable program that legitimate the spending for acquiring or retaining a customer. In this part of the article, my discussion will focus the Customer Acquisition Cost (CAC) and Customer Lifetime Value (CLV) comparison. The value of CAC and CLV with correspondent balancing model fundamentally determines the legitimacy of the fight for the customer.

Customer Acquisition Cost (CAC)

As defined previously, the customer acquisition means convincing people to buy or use your product or services. The process of convince actually starts with identifying a prospect who is a stranger to your offerings. The consumer journey with your product/brand starts with getting awareness and ends with making a decision to buy or not-buy.

buyer_journey_funnel

Consumer Journey Funnel | Source: HubSpot

As per the funnel above, HubSpot explain that as consumers move through the funnel (as part of their journey as a buyer), they:

  • Gain awareness of your brand
  • Add your product or service to their consideration pool, and
  • Make a decision to become a paying customer of your business.

The consumer journey through out the funnel produces certain cost for the company. The sales and marketing cost required to earn a new customer over a specific time period is ideally defined as Customer Acquisition Cost (CAC). The market study indicates that, marketers consider customer acquisition cost as an important business metric which helps organizations to determine the amount of resources that can be profitably spent on a specific customer.

Now let us have a look on “How to Calculate CAC?”

The determination formula to calculate CAC may vary from industry to industry based on the product/service nature and the behavior of the consumer toward the type of product. The high-level customer acquisition cost can be found by dividing marketing costs associated with a customer acquisition campaign by the number of customers acquired from said campaign.

CAC = (MCC+W+S+PS+O)/CA

Where,

CAC = Customer Acquisition Cost
MCC = Marketing Campaign Costs
W = Wages Related to Sales and Marketing
S = Related Software Cost (if any)
PS = Professional Service Cost associated with the campaign
O = Overhead Cost associated with the campaign
CA = No of customers acquired

 

So, the above listed variables are required to determine for the calculation of CAC. CAC is a critical number to calculate (and constantly recalculate) when acquiring new customers and employing new acquisition methods.

Customer Lifetime Value (CLV)

For overall acquisition decision making, CAC seems to be stand alone number without any specific implication. In order to make the value meaningful and material in decision making, another metric to calculate and analyze in relation to customer acquisition cost is a customer’s lifetime value (LTV).

Defined roughly, CLV is the projected total economic value a customer brings to your business over their “lifetime” (i.e. the duration of time they will spend with your company, from first interaction to final purchase). It indicates the projected revenue one customer will generate over the course of their relationship with a company.

A simplified formula to calculate CLV can be presented as below:

CLV = AOV * PF * CAL

Where,

Average Order Value (AOV) = Total Revenue ÷ Total Number of Order
Purchase Frequency (PF) = Total Number of Orders ÷ Unique Customers
CAL = Customer’s Average Lifespan

This calculation may bring the marketer into a position to determine the customer acquisition decision. The CLV to CAC ratio works as an indicator of a customer’s value relative to the costs to earn them.

The Balancing Act

Now the two standalone value provides a meaningful ground to analyze the customer value proposition in number. For a business point of view, if the CAC is higher than the CLV (or even equal), that’s a serious problem. Ideally, it should take roughly one year to recoup the cost of customer acquisition, and the CLV:CAC should be 3:1, which means the value of the customers should be three times the cost of acquiring them. A higher ratio than 3x means you could actually be growing faster if you invested in the right channels.

well-balanced poorly-balanced

The above figures explain the difference between Well-Balanced and Out-of-Balance Model for customer acquisition. The balancing act is a highly sought after issue for marketers. However, a proper balance in the CAC:CLV ration means a very well planned program for sustainable business.

Read the Second Part of the Article: The Battle for Customer: Fundamental of Share of Wallet (Second Part)

Read the Final Part of the Article: The Battle for Customer: Implication of CLV & SOW in Strategic Marketing (Final Part)

About Md. Moulude Hossain

FinTech | Digital Payment | Product Strategy | Product Management | EMV | Business Development

Discussion

6 thoughts on “The Battle for Customer: Fundamental of CAC and CLV (First Part)

  1. Good article. Far too many marketers choose NOT to obsess over LTV and CAC and choose instead to spend time crafting offers or stunt marketing. I was taught early on that “First, you have to calculate.”

    Posted by Mohammad Zohirul Howladar | December 13, 2019, 6:12 pm
  2. For non-contractual businesses, be careful about forgetting retargetting and re-engagement costs when doing ROI on CLV calculations. These days customers are so bombarded with advertising that it is easy for them to try a different brands for their next purchase (even if your product is awesome) unless you are actively retargetting them.

    Posted by Zaira Wasim | December 26, 2019, 8:02 pm
  3. Insightful piece. Seems like we’ll be feeding the RFM bit into our system for knowing who your most loyal customers are, the least loyal ones and everyone in-between . Thanks Mr. Moulude.

    Posted by Nurun Nahar Hoque | January 4, 2020, 11:04 pm
  4. Very true guideline here, Defiantly all customer is very important for our business and also for value of our business. Your marketing should focus on a specific group of people who are the right type to purchase your product or services and give them a message they will relate to.

    Posted by Golam Fazle Hasan | May 22, 2020, 11:08 pm

Trackbacks/Pingbacks

  1. Pingback: The Battle for Customer: Fundamental of Share of Wallet (Second Part) | iammoulude - November 19, 2018

  2. Pingback: The Battle for Customer: Implication of CLV in Strategic Marketing (Final Part) | iammoulude - December 15, 2019

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