Successful acquisition means attracting customers most likely to do business with you.
But when you have these customers, how do you know if your acquisition methods actually turn a profit for your business? Comparing customer acquisition cost and lifetime value is a great way to do this.
Below, we’ll discuss:
- Customer Acquisition Cost vs. Lifetime Value
- LTV:CAC Ratio
- How to Calculate LTV to CAC
- What is a good LTV:CAC ratio?
- How to Optimize your LTV:CAC Ratio
Customer Acquisition Cost vs. Lifetime Value
Customer acquisition cost (CAC) is how much your business spends on sales and marketing to attract a new customer. Lifetime Value (LTV) is the average amount of revenue one single customer generates for the duration of their business with you.
These metrics exist independently, but they can also be used as a comparison to help you understand the effectiveness of your acquisition efforts and business profitability.
An LTV:CAC ratio helps you understand your customers’ overall spending with your business based on how much you spend to earn them. You’ll see whether you’re outspending on acquisition or missing out on valuable opportunities because you don’t spend enough.
Overall your ratio tells you if your business is profitable, and companies use this metric to guide spending and find a balance that achieves profitability.
How to Calculate LTV to CAC
To calculate LTV:CAC ratio, you divide customer lifetime value by your customer acquisition cost.
The most common way to interpret results is to view it as an x:1 ratio, where x is the result of your equation and 1 represents one dollar spent on acquisition.
So, for example, if your business’ LTV is $1200 and your CAC is $500, your equation would be
1000/500 = 2.4
Your LTV, rounded, for this example, would be 2:1, where for every $1 spent on acquisition, you get $2 back.
If your business’ LTV is $600 and your CAC is $200, your equation would be
600/200 = 3
And your business’ LTV:CAC would be 3:1.
Featured Resource: Free LTV:CAC Ratio Calculator
Once you’ve conducted your equation, how do you know if you have a good score?
What is a good LTV:CAC ratio?
It’s agreed that 3:1 is a good LTV to CAC ratio, and you can interpret it as your business makes 3x what it costs to acquire a customer, or for every $1 spent on acquisition, you get $3 back.
A ratio closer to 1:1 means you’re spending just as much on acquisition as customers spend, so you’re not generating a profit, and you can stand to improve your acquisition strategy. If your ratio is significantly higher than 3:1, like 6:1, you might not be spending enough on sales and marketing and are missing out on valuable opportunities to attract new customers.
How to Optimize your LTV:CAC Ratio
It’s always important to monitor your LTV:CAC ratio to understand how effective your customer acquisition is. If your ratio shows you that there’s room for improvement, some of the best things you can do are:
- Focus on conversion rate optimization so it’s easy for prospects to convert to leads and for leads to convert to customers.
- Use the acquisition channels that are the right fit for your customers based on their behaviors and needs.
- Build customer loyalty through things like exciting loyalty programs, having excellent customer service, and listening to customer feedback to create a company that people want to continuously support.
Over to You
The most straightforward understanding of comparing your business’ LTV to CAC is to see if your company is profitable — you don’t want to spend more money than you get back. Use our template to figure out your LTV:CAC ratio and see if there’s room for improvement.