I want to be honest with you. Crunching numbers is not my favorite part of marketing. I’m the creative type, the one that loves to design and write. So for a long time, I avoided the “number side” of marketing. So I didn’t know my lifetime customer value or customer acquisition cost.
That was a mistake.
The numbers are key to understanding what’s working and what’s not. And if you don’t know what’s working, that means you’re spending precious time (and money) doing things that are all for naught. You’re shooting in the dark. So if you have ever wondered how much you should be spending on ads, knowing these numbers will be a game-changer for you.
Two crucial metrics every business owner should know and track are Lifetime Customer Value (LCV) and Customer Acquisition Cost (CAC). These metrics will give valuable insights into how profitable each customer is and how much your marketing efforts are paying off.
Understanding Lifetime Customer Value (LCV)
Lifetime Customer Value (LCV) is the total revenue a customer brings to your business over their entire relationship with you. Here’s why it’s important:
LCV provides a clear understanding of the long-term financial impact of acquiring and retaining customers. When you know how much money your customers will spend over years and in multiple purchases with your business, you can…
- Plan ad budgets. This is uber important when it comes to determining how much you can afford to spend on ads. Once you know how much you can afford to spend to acquire a customer, you can optimize marketing strategies and avoid overspending. You don’t want to spend $150 to acquire a customer if they only spend $100.
- Get insight into which market segment is most profitable for you so you can focus on that segment as you grow your business
- Forecast future revenue streams more accurately. This will help in setting realistic financial goals, budgeting effectively for marketing and customer service, and planning for growth over the long term.
LCV is more than just a number; it’s a compass to guide your strategy and ad spend!
How to Calculate Lifetime Customer Value (LCV)
The easiest way to calculate your LCV is to use my Lifetime Customer Value Calculator. But you can also do it the old school way. Determine the following three numbers and plug them into this formula:
LCV = Average Purchase Value (APV) × Average Purchase Frequency Rate (APFR) × Customer Value Period (CVP)
- Average Purchase Value (APV): Determine how much a customer spends, on average, during a given period of time (such as annually).
- Average Purchase Frequency Rate (APFR): Gauge how often, on average, a customer makes purchases within a set timeframe (such as annually).
- Customer Value Period (CVP): Estimate how long a customer usually continues to purchase from your business.
Understanding Customer Acquisition Cost (CAC)
Customer Acquisition Cost (CAC) measures the total cost to acquire a new customer, taking into account all sales and marketing expenses. This metric is important for evaluating the profitability of acquiring new customers.
Knowing your CAC also allows you to:
- Measure the return on investment (ROI) of your marketing campaigns.
- Allocate resources wisely by identifying cost-effective acquisition channels.
- Predict Growth profitability based on acquisition costs.
How to Calculate Customer Acquisition Cost (CAC)
Knowing your CAC helps you optimize your marketing investments and business strategy. You can use my Customer Acquisition Cost Calculator to determine your cost, or use this formula:
CAC = Total Sales and Marketing Expenses (TSME) / Number of New Customers Acquired (NCA)
- Determine your Total Sales and Marketing Expenses (TSME): Add up all costs related to sales and marketing, including:
-
- Salaries
- Advertising costs
- SEO
- Social media
- Email marketing
- Content creation
- Website and landing page creation and maintenance
- Marketing software and tools
- Webinars
- Events
- Consulting costs
-
- Number of New Customers Acquired (NCA): Count the new customers gained within a specific period (e.g., monthly or annually).
Putting Lifetime Customer Value and Customer Acquisition Cost Together
LCV and CAC work together like an orchard. LCV is like the fruit trees you plant. Each tree (or customer) yields delicious fruit (revenue) over its lifetime. Customer Acquisition Cost (CAC), on the other hand, is like the effort and resources you invest in planting and nurturing those trees. You want the fruit (revenue) from each tree to outweigh the cost of planting and caring for it. Just like a successful garden needs a balance of productive trees and manageable costs, a successful business balances high LCV with efficient CAC to grow profitably.
Example Scenario
Let’s explore a real-life scenario:
- Average Purchase Value (APV) = $100
- Average Purchase Frequency Rate (APFR) = 2 purchases per year
- Customer Value Period (CVP) = 5 years
- Total Sales and Marketing Expenses (TSME) = $50,000
- Number of New Customers Acquired (NCA) = 500
Calculations:
- LCV = $100 (APV) × 2 (APFR) × 5 (CVP) = $1,000
- CAC = $50,000 (TSME) / 500 (NCA) = $100 per customer acquired
In this example, each customer is projected to bring $1,000 in revenue over their relationship with the business, while the cost to acquire each customer is $100.
Conclusion: Mastering Your Business Health
By calculating and monitoring Lifetime Customer Value (LCV) and Customer Acquisition Cost (CAC), you can make informed decisions to improve profitability, optimize your marketing, and grow stronger relationships with your customers.
To take this a step further, use my Marketing Budget Calculator to determine what you should spend on your marketing overall. This will help you determine your budget so you don’t overspend.
Armed with these metrics, you’ll have the insights you need to assess the financial health of your business–and to run it profitably!
