What is Customer Acquisition Cost (CAC)?
Customer acquisition cost (CAC) is the cost related to acquiring a new customer. In other words, CAC refers to the resources and costs incurred to acquire an additional customer. Customer acquisition cost is a key business metric that is commonly used alongside the customer lifetime value (LTV) metric to measure value generated by a new customer.
Formula for Customer Acquisition Cost
The formula for customer acquisition cost is as follows:
- Sales and marketing expense is the advertising and marketing spend, commissions and bonuses paid, salaries of marketers and sales manager, and overhead costs related to sales and marketing over the measurement period.
- Number of new customers is the total number of acquired customers over the measurement period.
Example of Customer Acquisition Cost
Tim is the marketing manager of ABC Company and is due for a performance review in the coming weeks. Over the last year, he launched several marketing campaigns to attract new customers and would like to determine his customer acquisition cost prior to his performance review. Tim’s annual salary is $45,000. Below is information related to ABC Company’s marketing campaigns last year:
The customer acquisition cost for ABC Company over the last year is calculated as follows:
Importance of Customer Acquisition Cost
Customer acquisition cost is a key business metric that many businesses and investors look at. In fact, many companies end up failing due to not being able to understand fully their customer acquisition cost.
1. Improving return on investment
Understanding customer acquisition cost is crucial to analyzing marketing return on investment. For example, consider a company that uses several channels to acquire customers:
By using CAC, a company is able to determine the most cost-effective way to acquire customers. In the table above, we can see that Social Media provides the lowest customer acquisition cost while Social Events cost the most. A company presented with the data may look more into social media marketing to generate more customers.
2. Improving profitability and profit margin
Understanding customer acquisition cost provides a business with the ability to fully analyze the value per customer and improve their profit margins. For example, assume that the value of each customer to a business is $60.
Relating it to the example above, which channel would you choose to use? A business that does not understand CAC would adversely affect profitability by choosing to use Social Events as a channel. The channels Social Media and Posters would improve profitability for the company as its CAC is lower than the value per customer.
Customer acquisition cost is an important business metric used to evaluate the cost of acquiring a new customer. Calculated as sales and marketing expense divided by the number of new customers, a thorough understanding of CAC can help improve a company’s marketing return on investment, profitability, and profit margin.
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