LTV/CAC: Why It’s The Only Metric That Really Matters For Today’s Brands
I’ve been building brands for my entire career, working with the whole gamut between lean indie brands to global household name brands. My key takeaway: there’s really only one metric that matters:
The first thing to level set on is that throughout this post we’ll be referring to “Customer” as your end consumer/shopper. In a Direct to Consumer world, your customer is no longer your retail partner, but rather the end consumer who buys your product across any channel.
LTV is typically defined as the total revenue a brand can expect to derive from a single customer over the course of the business relationship (source: Hubspot Blog).
We understand that LTV is extremely hard to track for brands in the CPG industry as they rarely have the data to accurately track one consumer across channels and over long periods of time. That’s why I recommend thinking about LTV as the average gross profit per customer by channel over the course of one to three years instead of across all channels and across longer periods. 1-3 years also helps you keep a conservative look, understanding that CPG is heavily trend led and brand loyalty is harder to keep in this category than others.
CAC in this case is defined as the all-inclusive marketing spend by channel to acquire one customer. It should encompass media, creative, PR, coupons, sampling and all other spends that drive consumers to purchase at a specific channel.
At its essence, LTV/CAC is an ROI tool. Applied as I’m suggesting here, this tool allows comparison across channels, and helps brands optimize channel specific spend and maximize bottom line profits.
Sounds simple enough right? Well sure, If you’re a 10 person shop, with limited budgets it’s likely you’re already focused on this or another iteration of this. But if you’re a company who has historically relied on more traditional retail channels like grocery, pharmacy, specialty, click to cart and others, unwinding the way your teams currently measure success is going to be a hell of a task.
But here are three reasons why LTV/CAC should be part of your next meeting:
1. It works, and it’s how your competitors are building their business.
If you’re a category leader, the up and coming brands that are eating up your market have built their business around their ability to deliver a higher LTV and lower CAC for a subsegment of your audience. These emerging brand competitors are being funded based on their ability to deliver this more effectively than anyone else. Pay close attention to these competitors, because they’re being backed by smart Venture Capitalists who are hammering them on that one metric and one metric alone. We all know the story—Dollar Shave Club is a great example of a VC backed start-up that used hilarious ads and superb customer service to increase their LTV/CAC ratio, and ultimately got acquired by Unilever for over $1bn in 2016. (source: Medium)
Since you can’t control what you don’t measure, start measuring now to keep these emerging competitors from quickly hacking their way at a sub-segment of your market.
2. It’s a simple metric that most of your team can get behind.
A common challenge that brands face today is that the marketing budget has too many cooks in the kitchen, and is focused on driving too many different things.
At a very high-level, marketing teams focus on revenue/profit, while category teams focus on category consumption, the digital team on media optimization and performance, e-commerce teams on channel performance, and shopper marketing teams on retailer performance.
Now, imagine a world where every marketing initiative needs to deliver a clear LTV/CAC performance metric. This would force teams to properly assign their initiatives to an objective, or in this case, a channel. You might say, “Well, Marie, my category team initiative is focussed on driving broad awareness and usage for our category.” If this is the case, try adding an equal proportion of the category spend to every channel’s CAC.
Here’s an example:
Additionally, in a rapidly changing retail environment, brands need to be ahead of the curve and adjust their channel spend accordingly—as channels are always evolving, new ones will always appear, and buying patterns will continue to be fluid. LTV/CAC is a simple tool that allows brands to easily compare and pinpoint which channels are growing and which ones are stagnant.
3. It accounts for the value of owning a direct customer relationship.
Participating in a Click-To-Collect program from your favourite retail partner might seem enticing because you only have to pay for $0.50 coupons and a cheap program fee. What retailers don’t tell you, however, is that you might be stuck in a crazy never ending cycle of spending $0.50 every single time you want to convert Martha the discount shopper that you have no direct relationship with.
Most promotional budgets don’t take into account how many promotions have been distributed to the same consumer and how many consumers who would otherwise buy at regular price, get subsidized. The table below shows a theoretical example of: what the promotion itself might cost (for example: 10% off), the cost of delivering, and the cost of converting the consumer to the promotion via ads in order to drive the first, second and third purchase.
An important aspect to consider is the fact that once you own the customer’s direct contact information (pixel, email, shipping address, phone number), your cost of converting them to their second or third purchase is going to decrease significantly. While the cost to convert them to their first purchase might be more expensive in DTC channels, if the channel enables you to build a direct relationship with the shopper, your overall CAC should come out lower in the long run. In the example above, the third purchase could cost only $0.05 to drive with a remarketing email.
Many brands continue to pay for advertising across channels to reach an anonymous “persona” who they can’t continue the conversation with past that first contact. This needs to change if we want to win in a Direct to Consumer world.
I understand that this isn’t something that will happen overnight, but I want to invite you to start thinking about it so you can truly understand the value of your customer relationships.
So what’s next?
1. Go back to your KPIs and ask yourself: “Do you look at your channels using some level of LTV/CAC measure?”
2. If you don’t, start thinking about what data is needed to measure it.
3. Pick one channel where the data is available. If that channel is not available, create one (I’d be happy to help you - ask me how).
4. Set up your measurements. Measure, reiterate and find the key drivers that move your LTV and CAC.
5. Once you have the findings, you can start testing them across other channels. Then you can go back to the channels with enough information to run the right experiments and learn there too.
Lastly, if you’re like me and have been geeking out over this topic right now, let us know in the comments below!