What is CAC Payback Period and Strategies To Optimize It

Signing up new customers is always a celebration, however, if they bounce during the CAC payback period, it means you’ve lost some of your money spent on marketing.

Acquiring customers isn’t free, it comes with prices to pay for marketing, advertising, and salaries for your sales, content and other teams.

All of it costs around USD 205 on average for companies, and the subscribers that you gain from inorganic ways will set your business back by USD 341.

That being said, understanding the CAC (Customer Acquisition Cost) is crucial. The shorter the CAC payback period, the better it is.

What is CAC Payback?

CAC i.e. Customer Acquisition Cost is the cost of acquiring new customers and the value they bring to the business. When combined with CLV (Customer Lifetime Value), this metric guarantees the viability of their business model.

In every business model, the foremost question is – How long does it take to earn back the money spent on a new customer?

This measure where businesses try to understand how long it takes them to earn back the money they spent on acquiring a new customer is known as CAC payback. 

Recommended Read: Customer Acquisition Cost (CAC) Vs Customer Lifetime Value (CLV)

Let’s understand this with the help of an example. 

If a company spends around USD 500 to acquire a new customer and that customer makes a purchase of USD 500 over time, it means that the initial money spent on acquiring that customer is covered. The time taken for this to happen is the CAC payback period. It can be 6 months, 1 year or more.

Simply put, the this metric period is to gauge the effectiveness of the business marketing strategies and how quickly they can recoup the money invested in the acquisition of new customers.

How to Calculate the CAC Payback Period?

This metric period can be calculated in a few simple steps:

Step 1: Find your Sales & Marketing Cost

Add up your sales and marketing expenses, like advertising costs, team salaries, software, etc in a month

Step 2: Calculate CAC

Calculate CAC or Customer Acquisition Cost by dividing your sales and marketing cost by the total number of new users acquired in the same period

Recommended Read: What is CAC and How To Calculate It

Step 3: Calculate MRR

Determine MRR (Monthly Recurring Return) or the average revenue generated from a single customer over the same period. duration. This might include recurring subscription fees or any other additional revenue from cross-sells, add-ons, upsells, etc.

Also, find your Average MRR by dividing your MRR with the total number of new users acquired

Recommended Read: All You Need To Know About MRR

Step 4: Find Your Gross Margin %

To calculate your Gross Margin Percentage, you need to know your Revenue and Cost of Goods Sold (COGS). So, Gross Margin % is calculated using this formula = (Revenue – COGS)/Revenue x 100.

Recommended Read: What is Gross Margin

Step 5: Calculate CAC Payback

Now, calculate CAC payback using this formula:

CAC Payback Period = CAC ÷ (MRR × Gross Margin %). In our example, CAC Payback is 15 months. The lower the CAC Payback, the better.

As Tom Tunguz rightly says, ‘’CAC Payback Period determines how much cash the company needs to grow.’’

CAC Payback Period for SaaS

The SaaS CAC payback period metric is the time taken to earn back the money invested in acquiring new customers.

There’s a break-even point metric which goes by Time to Recover CAC or Months to Recover CAC. 

The Benchmarks for SaaS startups include a recovery time of 12 months or less. While the high-performing SaaS companies recover their customer acquisition cost within 5-7 months.

Most often, large enterprises might have a longer CAC payback period because of their greater access to capital. 

How to Calculate

Imagine, a SaaS company spends USD 50,000 on marketing and sales to acquire new customers. The average revenue per customer per month is USD 100 and you want to calculate the CAC payback period for 12 months.

In short, it will take around 6000 months for that revenue to be covered. 

Why is CAC Payback Important?

CAC payback period is vital for financial planning, assessing business viability, instilling confidence in the investors, better resource allocation, and facilitating performance evaluation which ultimately contributes to business growth. 

Cuts off Unproductive Customer Acquisition Options

The CAC payback period helps you understand your company’s cash flow. If you don’t know the CAC and CAC payback period, you might lose your money to unproductive ways of customer acquisition. 

Recommended Read: Customer Acquisition Cost Vs Customer Lifetime Value

Ensures Better Money Allocation

Moreover, it helps in understanding how much you can spend or should spend per client for a futuristic approach for your company.

For instance, a long payback time is the first sign that the present CAC approach isn’t working and must be changed before any losses are incurred. 

Boots Investor Confidence

A shorter payback period signals to investors that your business has a strong CAC strategy in place with the potential to spend revenue on marketing.  

Recommended Read: Angel Investor Vs Venture Capitalist

Guarantees Optimum Allocation of Resources

Also, when you know how long it takes to recoup the money spent on CAC costs, you can optimally distribute resources more efficiently.

Focusing on acquisition channels that yield quicker payback periods, maximize return on investments and optimize their market spend becomes a cakewalk. 

Helps Evaluate Performance

Tracking these metrics helps in analyzing the effectiveness of customer acquisition efforts. Plus, it helps you identify areas for optimization and improvements.

On the whole, the importance of this metric highlights better allocation of budgets, forecasting cash flows, informed decisions about future investments, business viability and more. 

Recommended Read: Continuous Budgeting – The Future of Financial Planning

How to Reduce CAC Payback Period?

Are you aware of the fact that you can alter your CAC payback period to generate more profit?

For this you need to experiment a lot and need a thorough understanding of your company and customers.

Here’s how you can reduce your CAC payback period:

Emphasize on the Least Expensive Acquisition Channels

If you’re wasting money on Google Ads when LinkedIn Sponsored Posts will generate quality leads for you, it means you need to shift your focus.

Understand everything about the least-priced, high-quality leads and from where you can get them. Focus more on how they can be utilized to lower these metrics.

Recommended Read: Prospect vs Lead – All You Need To Know

Concentrate on Channels with Higher Deal Values

With marketing comes a lot of experimentation. Find out which campaign works the best for you, examine what’s functioning and what’s not and lastly change plans to see how it all affects your CAC payback period. 

Use a billing platform or a CRM or an analytics platform to identify the lead source and compare it to the average revenue per client across all platforms.

With this, you can learn to prioritize digital channels like PPC, content marketing, SEO and others. 

Recommended Read: Advertising Costs – What It Is And How It Works

Focus on Expansion

Extend your services to enterprise customers to shorten your CAC period. Such businesses get into year long contacts and pay in lump sums which means that you can recover the whole CAC upfront.

Apart from the above factors, choose to concentrate on upselling and minimize churn because a high turnover rate is dangerous for businesses. That’s how you can quickly reduce your CAC payback period.

Also, larger companies have longer CAC periods because of their huge access to resources and cash. A developing or early-stage company must not opt for a lengthy payback period. 

Recommended Read: All Yoo Need To Know About Churn Rate

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