Budgeting and investing for the results you want
Do you measure the relationship between the lifetime value of your customers and the cost of acquiring them? A customer’s lifetime value represents the total amount of money he/she is expected to spend at your business during the lifetime of the relationship. Customer lifetime value (CLTV) joined with customer acquisition cost (CAC) are metrics growing companies use to determine the success of their business. “The metric is computed by dividing LTV by CAC. It is a signal of customer profitability, and of sales and marketing efficiency.” Business model failure happens when the cost to acquire customers exceeds the lifetime value of the customers. Today we simplify three different scenarios a business may experience.
- Customer acquisition cost is more than customer lifetime value. In this scenario your sales and marketing expenses exceeds what the customers will spend at your business over their lifetime. “The more customers you acquire the more money you will lose. Also, the faster you acquire customers, the faster you will run out of money.” This leads to business failure.
- Customer acquisition cost and customer lifetime value amount to the same in value: In this scenario the cost of acquiring the customers and the amount of money they are likely to spend at your business over their lifetime are the same value. This action leads to business stagnation.
- Customer acquisition cost is less than the customer lifetime value: In this scenario you can repay your customer acquisition cost over the customer’s lifetime and generate additional revenue. Your business will grow, and you should continue to drive further customer acquisition.
According to Stephen Barone of FullFunnel, once you understand the importance of CAC and know how to track it, your next step should be to work toward achieving an acceptable CAC. Typically, a CAC that is equal to or less than 20 percent of the average lifetime value (LTV) of a customer is deemed acceptable. This means that if the average annual value of your customer is $20,000, and the average customer stays for three years, then your average lifetime value is $60,000. In this example, you should be willing to pay up to $12,000 to acquire a customer.
When you know the impact of your CAC on your CLTV you will be in a better position to budget and invest for the results you want.
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