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SaaS investment is all about revenue and growth. VCs and gurus are focused on the top line. There is a strong belief that profits will follow in time. The big returns come from following the hockey stick curve. Metrics reflect the same thinking. LTV, ARR, MRR. Even churn is a number linked to the income line. Yet there are a couple of cost metrics that matter.

Customer Acquisition Cost (CAC) is the top of this list. It is often the only non revenue measure that SaaS investors look at. It attracts more analysis and comment than any other number below the top line.

A Simple Definition

Image Credit: Tristan Martin

CAC is the total cost of all your sales & marketing each month divided by the number of new paying customers signed up. There are many variations and subtleties. But this is the number you are trying to find.

Costs include everything from a $100 test campaign on Adwords. To hiring that expensive VP of sales you dream about.

The importance of this metric appears simple. If LTV is greater than CAC for each customer then you will make money. The bigger the gap, the higher the profits will pile up. The real trick is more complex. CAC is important because it is the true window on your sales effectiveness. Understand CAC and learn to manage it. It will pay dividends.

How CAC helps you win

Image Credit: Wolf Read

There are plenty of good articles around that show you how to calculate CAC. Figure out the right formula and put a process in place to gather the data. Then think about these key things:

  • Advice on how to sell is everywhere. Expertise on how to hire or motivate sales teams is almost as common. CAC is the key test metric for what works. Use it. Find the right answer for you not the latest fad. No amount of reading will tell you what works for your SaaS. CAC can and will.
  • The costs that fall under the CAC definition need to be right not cheap. Every approach costs money. Investing in the wrong CAC means choosing the wrong channel to market. It will cost many multiples of any dollars saved in the short term. Overheads are about grabbing a bargain. CAC is not.
  •  Lots of companies offer discounts to startups or companies in accelerator programmes. Hubspot for example has a 10% deal. By all means take advantage. But make sure your numbers still work if you substitute the full price for the initial offer rate.
  • Sales teams are not a true variable cost. Marketing channels are easy to switch on or off. Once you hire someone it is different. Run tests with channels and platforms. Don’t experiment with people. And tie compensation to measures of sustainable revenue. Not just new sign ups.
  •  Don’t just aim for a CAC which is less than LTV. Aim for leverage. Ideal is to a ratio of LTV 3 times the level of CAC. Track this ratio not just your CAC value. Keep it at 3 to 1 and you are getting real bang for your CAC back. No matter if it is inbound, outbound or direct sales.
  •  Remember that you incur the cash cost of CAC before the LTV revenue flows. High growth SaaS also suffers from high cash burn. Your investors will finance this. If you have a handle on your CAC and the leverage ratio, investors will love it.

Metrics are not just for investors. The real value is as a powerful tool for startup founders and leaders. SaaS lends itself to metrics more than most business models. CAC is the key top level measure to show that your sales and marketing efforts are succeeding.

There is not right level of CAC. The leverage ratio with LTV is the critical factor. Keep this at 3 to 1. Understand how different channels and tactics impact both CAC and the leverage ratio. You will have a powerful tool to grow your business.

by Kenny Fraser @Sunstonecomms

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1 comment

  1. Trevor Hatfield

    Great read! Any tips or follow up articles on ideas for reducing CAC?

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