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Customer Acquisition Cost (CAC) and Customer Life Time Value (CLTV)

, June 17, 2016, 0 Comments

Customer-Acquisition-Cost-CAC-Customer-Life-Time-Value-CLTV-marketexpress-inYou’re an exciting new startup with an out of the world idea and touted as the next big thing in eCommerce in India. Wow! You’re landed. Well, not quite. Reality strikes when, after having arrived at your MVP, assuming that you know your TG well and knowing a few more two to three letter acronyms well. Where has all the money gone??? And then you stumble across another dreaded three letter acronym – CAC!

The customer acquisition costs or CAC in Indian eCommerce has been climbing rapidly due to intense competition between several well-funded players. The average customer acquisition cost (CAC) varies widely by sub-categories, brand awareness, marketing/acquisition strategies, and how aggressive you are at acquiring your customers. CAC is a combination of your marketing spends, conversion rate and organic acquisitions.
Let’s first understand CAC through an example using numbers that are typical in the

Indian market today. Let’s assume the company in question is a multi-category eCommerce player, and for ease of understanding, let’s assume that all marketing spend done by the company is in Search Engine Marketing:

  • Cost Per Click (consider Google) for several fat tail eCommerce keywords (e.g. shopping, books etc., related) are in the Rs.15-40 range. Keywords related to high value items such as jewelry and electronics command much higher rates. Long tail keywords/phrases cost as low as single digits. Let’s say you have an SEM strategy that gets you a blended average CPC of Rs.10
  • The next variable is the conversion rate. This varies widely by sub-category, brand awareness, competitive pricing, site UI & UX, etc. A conversion rate of ~1% is considered acceptable today (2% was the norm not too long ago). Remember that the niche and micro-segments tend to have relatively higher conversion rates
  • The last yet a very critical variable is the percentage of organic acquisitions (i.e. Search Engine Optimization, Word of Mouth or anything that costs you negligible amounts or almost nothing). This change positively over the lifecycle of your company as you build more traction and brand recognition. Let’s say your company currently acquires 30% of its customers through ‘free’ means, and 70% through SEM. Further, let’s say that the marginal organic acquisition cost is close to Zero.
  • The average customer acquisition cost for your company would then be Rs.10*(1-30%) / 1% = Rs.700. Again, you can push this number up or down based on your SEM strategy/aggressiveness and it also depends what segment you are operating under.

A CAC of Rs.700 can be considered okay for one time purchases of high value items such as electronics, jewelry, gym equipment etc., as the ticket size of such purchases is much higher, thereby resulting in a relatively higher margin that helps in offsetting the CAC. It’ll all be hunky-dory even if it is a onetime purchase made by the customer in this

However, if the ticket size were to be the average figure of ~Rs. 1000, congratulations you’re into social

Let’s look at the third possibility now, that of repeat orders from the acquired customer. Even if the above scenario occurs in a segment where the purchase need is recurrent, you have hope. This is where the boon of Customer LifeTime Value (CLTV) saves your business.

Let’s assume that you’re a niche category e-tailer, and just as explained earlier your CAC is Rs.700 and your customer’s buying need is recurrent and each buying event occurs every month at least for three years with an average ticket size of Rs.1000

Let’s say that you manage to secure at least a half of the 36 assumed recurring purchases, that’ll then translate to a minimum turnover of Rs.18000 from this customer. So the CLTV in this case is Rs.18000 and you’re safe even if you spend Rs.700 to acquire your customers. Now we’re talking business!

So that’s how a business with high CLTV gets away even in the face of rising CACs. Of course you will need to consider customer retention costs; however, with superior customer experience your customer loyalty will tend to remain high and the retention costs exceptionally

You need to be wary of your acquisition strategies, though; if you’re relying too heavily on discounting to acquire customers, you will only end up acquiring a price-shoppers. These customers are loyal only to the lowest price and not to brands.

Here are a few staggering facts reported by Marketing Sherpa while conducting a worldwide study of the eCommerce sector in 2014-15:

  • 43% profits come from retained customers for average eCommerce stores. Margins go up to 80% for best in class
  • Only 42% companies are able to measure CLTV accurately
  • 44% companies focus more on customer acquisition than on customer retention. Only 16% focus more on retention and only 40% focus equally on both
  • The Probability of selling to a new customer is 5 to 20% compared to 50% to 70% when it’s an existing

So the math is simple, a business with a high CLTV will eventually emerge a winner simply through exceptional customer experience and simply focusing on acquiring customers wouldn’t cut it for you, focus on repeat business from your existing customers a lot more. Remember that a happy customer will share his or her experience with 5-7 people, whereas an unhappy customer will potentially spread negative word to 50+ people!