LTV and CAC are metrics of vital importance to a successful start-up! We cover these in our latest course, Robust Brand Storytelling for Start-Ups.
Let’s start with some definitions:
LTV is the Lifetime Value of a customer to your business.
CAC is the Customer Acquisition Cost, which is the total cost of sales and marketing, divided by the number of customers that you have acquired.
For your business to make money, LTV has to be bigger than CAC. If not, you're losing money on each customer acquired.
It matters to branding because your brand should speak to the customers that have a high lifetime value while being easy to acquire. (I.e. High LTV, low CAC.)
You can term these friends, your ideal customers!
How to calculate LTV
Lifetime Value (LTV) is calculated as follows:
LTV = Annual customer revenue * Customer lifespan
For example, if I buy five SONOS speakers in my life, one each year:
LTV = £299 * 5
LTV = £1,494
The type of business you have will change the complexity of the calculation. For example, a clothes retailer will look at:
LTV = Average order value * Number of annual orders * Customer lifespan
If you sell cars, you have to consider the upfront car payment, followed by recurring service visits, perhaps followed by a second car purchase, and then the service of two cars etc.
In any case, the adage goes, it’s easier to sell to existing customers than new ones, so increasing your LTV by selling more products and services to current customers is a smart move.
How to calculate CAC
Customer Acquisition Cost (CAC) is calculated as follows:
CAC = Total sales and marketing costs / Number of customers acquired
Hypothetically*, the SONOS CAC might be:
CAC = £1,400,000,000 / 3,500,000 customers
CAC = £400
CAC is affected by a great many things… One of them being a marketing metric: CPA, the Cost Per Acquisition of a customer. But also rolled into CAC is everything to do with marketing (from staplers to events to photoshop licences) and everything to do with sales including (from size of team, travel to meetings, contractual fees, softerware).
CAC vs. LTV
Your business only makes money if the LTV is greater than the CAC, and even then LTV has to be much larger than CAC as there will be other running costs in your business.
If SONOS had 3,500,000 customers like me, with an LTV of £1,494 each, great! They’re making money.
However, some customers will be better than me, buying more and smarter SONOS systems.
But, some customers will be worse than me, only ever buying a singular SONOS.
If SONOS only had those single speaker customers, they would lose money on every acquisition. So finding the right type of customer is essential.
Brand me rich with ideal customers!
Your brand should appeal to the customers with the best LTV and the lowest CPA. I’d love to have a look at the SONOS ‘ideal customer’ they use in their branding.
If I were to guess, it might look like:
A young man, ex-bedroom DJ, with a decent job, perhaps in tech. He has just moved into his first apartment that he doesn't share with uni friends and wants to have great sound. As his career, and his houses, grow, he buys more and better SONOS, until he has kids of a certain age. He then has to stop buying speakers and start saving money.
The experience of the SONOS brand should fit this hypothetical customer and the marketing should go out and find them!
The better the marketing, the lower the CPA, and hence the lower the CAC.
The better the customer profile, the higher the LTV.
Learn how to use LTV and CAC in a STANCE course
In our course, Robust Brand Storytelling for Start-Ups we cover the concepts of CPL, CPA, LTV and CAC in Module 2: Research. Module 2 also investigates profiling your ideal customer, evaluating your competition and getting to grips with your company differentiators. Thorough research ensures that your STANCE (aka brand story) is relevant to the right people while standing out from the crowd.
* All numbers featured in these examples are completely fictitious. They in no way have a relationship to the profitability of SONOS.