The marketing world is an ever-changing, dynamic place. Its technology, trends, and tactics never stay stagnant for long.
How do you ensure your current customer acquisition strategies pay off? Certainly, calculating return on investment (ROI) is one place to start.
Invented in 1914 by Donaldson Brown, the ROI formula lets you monitor overall business performance. To understand the nitty-gritty of how your marketing efforts work, however, you’ll need to consider other calculations generated by various SaaS tools.
The most important metrics? Arguably, Customer Acquisition Cost (CAC) and Lifetime Value (LTV) or Customer Lifetime Value (CLV).
Yet, these calculations represent just the beginning when it comes to gaining a thorough understanding of your current business model.
Let’s take a closer look at some of the most critical metrics Software as a Service (SaaS) calculators can provide. That way, you develop a full picture when it comes to revenue generated by your marketing efforts.
Saas Tools 101
You should be familiar with the concept of ROI, its definition, and the best ROI calculators out there. That said, this figure isn’t the be-all and end-all when it comes to assessing the value of your marketing efforts.
You’ll need a variety of other SaaS sales cost analysis tools to drill down into the ROI on your digital marketing campaigns. After all, not all aspects of digital marketing tie directly to conversion and revenue. As a result, they lack tangible value on paper.
How do you surmount this obstacle? By relying on a variety of SaaS cost calculator resources that help you quantify numbers related to:
- Other tangible metrics
Often referred to as “soft metrics,” don’t let the term fool you. They’re a significant part of the discussion when it comes to your digital marketing ROI.
How can you effectively measure this ROI? Although the answer to this question is not necessarily simple, knowing where to start is.
Begin your digital marketing ROI assessment by honing in on two key metrics:
- Customer Acquisition Cost (CAC)
- Lifetime Value (LTV) or Customer Lifetime Value (CLV)
Not only will they help you calculate your ROI, but they also provide a firm basis for future predictions. You’ll also want to consider other calculations such as Total Cost of Ownership (TCO) down the road, but CAC and LTV will get you going.
Customer Acquisition Cost (CAC)
In a nutshell, your company’s Customer Acquisition Cost (CAC) indicates how much you need to spend before a lead converts and purchases one of your products.
Before the digital era, tracking these costs proved difficult if not downright impossible. Today, however, technology provides us with the tools we need to calculate this figure, from web-based advertising to trackable campaigns.
No wonder CAC has evolved into one of the most critical digital marketing metrics out there! If you’re not paying attention to it, you’re missing out.
Why? Because CAC is an incredibly useful metric. It helps you determine the profitability of your company. As a result, this number often gets used by incubators and early-stage investors to analyze the scalability of a new company.
For marketers and internal operators, CAC can be used to optimize the ROI of advertising campaigns. After all, the CAC gets reduced.
This situation means a more significant overall profit margin for your brand. Talk about a win-win!
How to Measure CAC
Now that you’ve got a better understanding of the importance of CAC, let’s talk about how you determine it. Fortunately, the calculation proves simple. Divide your company’s total marketing expenses during a specific period with the number of customers acquired.
In other words, if your company spent $2,000 on advertising expenses over the past year, and you acquire 1,000 new customers, your CAC is $2.
Generally, your goal should be to calculate it for each of your marketing channels.
By going the per channel route, you’ll learn which ones prove most effective when it comes to customer acquisition. What’s more, the channels providing you the least in terms of value will stick out like a sore thumb.
Here’s something to keep in mind as you make these calculations. The more money you invest in lower CAC channels, the more “effective” they should become in terms of ramping up your marketing progress.
Of course, you’ll want to keep watching your CAC per channel to make sure that these investments do, indeed, pay off.
How to Calculate CAC for Individual Marketing Channels
Although the CAC formula itself is quite simple, there are many different approaches when it comes to calculating CAC for individual marketing channels. You can boil them down to two main methodologies: the average approach and the ideal approach.
For the average approach, you’ll assume that all channels contribute equally to acquiring customers.
Although this might sound like quite an assumption, it’s based on the theory that each channel of your digital marketing plan supports the next. In other words, your blog posts support your ads. Your organic search supports your blog posts, etc.
As for the ideal approach, this involves calculating CAC based on the channel’s direct contribution. While this approach lets you examine the data available to you on a more granular level, it can also get complicated quickly.
Fortunately, SaaS calculator technology has come a long way. For example, you can now use conversion tracking pixels in PPC advertisements to find out exactly how many customers you acquire with each campaign.
The Caveat When It Comes to CAC
Of course, there’s a caveat to all of this. Not all marketing expenses fit into the criteria of a timeframe or customer acquisition purpose.
This observation raises questions. How do you deal with marketing costs that are long-term in nature? Or, that don’t directly contribute to customer acquisition?
For example, what about an early investment in SEO? Or, a customer who bought your product or service multiple times over the past year?
These types of factors can cloud the results you get with a CAC calculator. That’s where other metrics come in handy. Combined with CAC, they provide a more accurate snapshot of your digital marketing ROI.
Companies with a Long Sales Cycle
As for companies that offer products and services with a long acquisition or sales cycle (e.g., items that come with a free trial), you must factor in the free trial period.
Otherwise, your CAC will indicate you’re investing lots of money in digital marketing without much return.
Customers are likely waiting until the end of the free trial period (whether that’s one week, one month, or more) to make a buying decision. So, seeing ROI on these marketing strategies may involve a months-worth of lag time or more.
As for an acquisition process that’s drawn-out over six or more months? You’ll need to lag your expenses by your typical sales cycle. For example, divide new customers from July with costs from January.
If you’re not concerned about month-to-month changes, it often makes the most sense to average your CAC over 12 months for simplicity.
What Is Lifetime Value (LTV)?
With a more thorough understanding of CAC under your belt, let’s explore the second most vital SaaS ROI calculator for measuring your marketing ROI, Lifetime Value (LTV) or Customer Lifetime Value (CLV).
LTV is the projected value generated in revenue by a specific customer during the lifetime of their relationship with your brand.
Remember the scenario that we mentioned above? How repeat customers can cloud CAC? Fortunately, LTV can account for these customers in its calculations.
What’s more, it can also provide valuable information regarding potential customer buying power. This matters when it comes to situations like how much money your one-time customers might be investing in your competitors.
LTV remains one of the most effective and accessible marketing metrics to analyze customer acquisition strategy and marketing costs.
The Value of LTV
Why is LTV ultimately so valuable? Because it allows you to realize the actual value of your customers. It also helps you focus on the right channels. In other words, those channels, which bring your brand the most profitable, long-term customers.
Having a proper LTV calculation also allows you to improve your CAC calculation. How? By providing you with the knowledge you need to allocate your marketing budget most beneficially.
As a result, you have more money available to acquiring new customers. Why? Because instead of thinking about one-off sales, LTV lets you cultivate long-term customer relationships involving multiple purchases.
How to Calculate LTV
Like CAC, there are different ways to calculate LTV. Some big-name companies even go so far as to adopt and use several calculation methodologies.
How should your company calculate LTV? Ultimately, your method should be directly informed by your company’s philosophy when it comes to customer retention. That said, let’s take a look at some of the most widely used calculation methods.
They include the:
- Historic LTV Method
- Simple Predictive LTV Method
- Detailed Predictive LTV Method
Each of these calculation types comes with unique advantages, so you’ll want to try them out and choose carefully in terms of how you’d like to measure LTV moving forward.
The Historic LTV Method
The most basic type of LTV calculation remains the historic approach. The concept proves simple, although, like all else in marketing, the application can get complicated quickly.
How does the historic LTV method work? You’ll use the actual value of LTV and the gross profit sum of all historic purchases of one customer to crunch numbers. It looks like this:
Historic LTV = (Transaction 1 + Transaction 2 + Transaction 3…) x Average Gross Margin
Some companies resist this method. Why? Because they claim it can be extremely challenging to calculate on an individual and up-to-date basis. That said, there’s an ever-burgeoning market of software and tools rising to meet these needs.
The Simple Predictive LTV Method
As for the predictive LTV calculation? It attempts to predict the total revenue a customer will generate during their lifetime with your brand.
To achieve this calculation, you’ll need to know your customer’s average lifespan (ACL) with your brand as well as the average gross margin (AGM). For both of these data points, make sure you collect enough data to make them accurate.
From there, the simplest calculation looks like this:
LTV = (average monthly transaction x average revenue x AGM) x ACL in months
Knowing the simple predictive LTV of each of your customers will help you better assess your current marketing targets and adjust accordingly.
The Detailed Predictive LTV Method
With the detailed predictive LTV method, you add two more pieces to the puzzle: monthly discount rate and monthly retention rate. Apart from that, the process remains simple and straightforward.
You’ll need to use this equation:
Retention Rate = X/Y
X = number of customers who’ve purchased something within the last two years and made another purchase within the last six months
Y = total number of customers who’ve purchased within the last two years
The number you come up with will change monthly (unless you’re doing an excellent job at keeping repeat customers!) So, most marketers refer to it as a monthly retention rate.
Depending on your company’s culture, your discount rate might change every month, too. What then? Use this equation instead:
Detailed LTV = Simple LTV (monthly retention rate)/(1+ monthly discount rate-monthly retention rate)
This approach lets you stay on top of discount performance in terms of customer conversion and retention.
Your LTV to CAC Ratio
Last but not least, you’ll want to keep track of your LTV to CAC ratio. You can use this equation to do so:
LTV/CAC = LTV to CAC Ratio
Why does it work? Calculating the ratio between LTV and CAC is an excellent way to predict your brand’s future growth. For example, if you’ve got an LTV to CAC Ratio above one, this indicates you’re making a solid investment in the future.
The bigger the number? The better your brand is performing. That said, if the rate proves too high, this might indicate it’s time to invest more on the sales or marketing side of things.
Although benchmarks vary by industry, most experts agree that you should shoot for a ratio of 3:1 or better. What if your ratio’s a 5:1 or higher? This number means you’re under-investing in marketing.
What should you do? Adjust your budget to achieve better short-term gains.
Keep this in mind before you start making major changes, however. LTV remains a volatile metric. It can nosedive easily if a new competitor enters the scene. It can also skyrocket each time you update your service or product.
The Tools You Need to Succeed
If you’re feeling overwhelmed by all of the calculations and factors involved in deriving your CAC and LTV, we get it. That said, a highly functional SaaS pricing calculator model will revolutionize your company’s marketing future.
Fortunately, SaaS tools make calculating factors such as CAC, LTV, and more, easier than ever before. Are you interested in finding out more? Good, because we’ve got your answers!
Let us help you build the right ROI calculators to assess your digital marketing ROI. Check out Ion Interactive and how it’s changing the way companies measure marketing campaigns for the better.