Q. Dear Zenagos,
I heard that I need to know my Customer Acquisition Cost. How do I get that?
Customer Acquisition Cost is a piece of data that is critical for decision-making, but most small business entrepreneurs have never even heard of it. It’s exactly what it sounds like: the cost of winning (or “acquiring”) a new customer. Most business owners are used to thinking about their marketing budget, but they don’t think about dividing it by customer.
What is the math?
At first glance, it is easy to calculate CAC. Get your monthly income statement from your accounting system or ledger. Choose a time period (such as one month or one year). Add up your acquisition costs (money that was spent specifically to acquire new customers) for that time period. See how many new customers you acquired in that time period. Then, divide:
CAC = Acquisition Spending / New Customers Acquired (in the same time period)
This is a straightforward calculation, and if your business has been running at about the same level for a year or more (with a steady monthly marketing budget and a stable number of new customers per month) then the CAC calculated by choosing expenses and new customers in the same month will be pretty valid.
However, if your company is growing rapidly, then this calculation could give you a skewed send of your CAC because the new customers you acquired this month probably came as a result of marketing that you spent last month, or maybe several months (or even years) ago. For a growing business – or a business that has recently made large changes to its advertising budget – it is important to match the costs from specific advertising spending to the customers who came in as a result of that campaign. If you don’t have a finance team, don’t drive yourself nuts matching campaigns, just do your best. You can learn a lot by tracking a sample campaign as a spot check.
Why is Customer Acquisition Cost important?
CAC is a very useful tool for comparing the marketing activities for your business. If you make it a monthly discipline to calculate your CAC for each marketing activity, you will develop a strong understanding of which marketing expenditures provide the best value. This can help guide your choices. For example, you may decide to allocate more marketing dollars to the channels that have the lowest CAC (assuming that they provide customer prospects of similar quality).
Also, if you make it a habit to track your CAC, you will notice changes in your marketing channels much more quickly. If a channel is suddenly becoming more expensive, you will notice the change right away, enabling you to take rapid action. Staying on top of your marketing environment can be critical to your business’ survival.
Referrals and Partners
Another reason that it is good to know your CAC is that it can help you to make rational decisions about the value of referrals and partnerships. Many entrepreneurs share a significant percentage of their revenue with a delivery partner, such as Amazon, Etsy, or Grubhub. It is difficult to evaluate whether such a partner is a good deal without knowing your CAC. For example, if you know that it costs you $150 to acquire a new customer using search advertising, then you should be willing to do a deal with a delivery partner if that partner brings in new customers at a CAC that is less than or equal to $150.
Similarly, you should be willing to reward referrals up to your average CAC. If you can get the referrals for free, or for a nominal gift or fee, that’s even better. Once you know your CAC, you know the true value of any source of new customers, and you become a better decision-maker.