Customer Acquisition Cost vs. Customer Lifetime Value: What's The Difference?

When LTV and CAC join forces, they give a clearer picture of how much value your customers provide your business.

New business owners often need help deciding not only which metrics to track regularly, but what combinations of metrics will present the clearest picture of their customer acquisition efforts. This is especially true if you’re among the 80% of marketing leaders who struggle to identify a common set of metrics to gauge the effectiveness of their marketing efforts.^[1]

Customer acquisition cost (CAC) and customer lifetime value (LTV) are great examples of metrics that are more telling when measured in tandem than on their own. Together, they create a narrative about the value your customers provide in relation to the amount you’ve spent to acquire them.

This primer uses insights from Gartner research^[1,2] to help you understand the difference between CAC and LTV, as well as how these metrics can be best used to inform your small-business marketing strategy.

How is CAC different from LTV?

Customer acquisition cost is the average sales and marketing expenses necessary to achieve a first sale with customers. It’s calculated to answer the following questions:

• Which marketing channel is most effective?

• Are we spending more to acquire customers than we stand to make from those same customers?

• Is there more we could be doing to attract new customers?

Customer lifetime value is the average revenue brought in by a customer relationship over its lifetime. A repeat customer who makes multiple purchases from your business over their customer lifespan—i.e., the total number of years they purchase from you—will have a higher LTV than a one-time customer. LTV is calculated to answer questions such as:^[2]

• How do I concentrate acquisition efforts on audiences more likely to become high-value customers?

• How do I tailor cross-sell programs to increase the value of existing customers?

• How do I direct customer retention activities toward my highest-value customers?

How are CAC and LTV calculated?

CAC’s formula is simple: Divide the amount spent on marketing and sales over a given period by the total number of new customers acquired during the period. Let’s say you spend $100 on Google advertisements in your first month and gain 10 customers from those ads. Your CAC would be $10.

LTV is a bit more complicated to calculate. First, you need to determine the following variables:

• Average purchase value: Your company’s total revenue within a given time frame divided by the number of purchases over that same time frame.

• Average purchase frequency: The number of purchases over a time frame divided by the number of customers who made purchases during that time frame.

• Customer value: Average purchase value multiplied by average purchase frequency.

• Average customer lifespan: Average number of years a customer buys from your brand.

LTV is calculated by multiplying customer value by the average customer lifespan. This will give you an estimate of how much revenue you can expect from your average customer over the course of their relationship with your business.

What is LTV to CAC ratio?

The LTV to CAC ratio measures the value your customers provide your business versus how much you spend to acquire them. In other words, it tells whether the revenue customers generate for your business justifies the effort your marketing and sales teams put into gaining new customers.

It’s important to keep this ratio around 3:1 because it means that you make three times the amount you spend over the customer’s lifetime than you spend trying to acquire the customer in the first place.

How can LTV to CAC ratio be used to inform marketing strategy?

LTVCAC ratio can tell you a lot about what next steps you need to take to improve your marketing efforts. For instance, a 1:1 ratio means the cost to acquire new customers is the same as those customers’ LTV. This would actually result in a loss for your business since CAC takes only marketing and sales expenses into account and not what you’re spending on parts, labor, shipping, handling, and other expenses.

If LTV is lower than CAC, it means your business is spending more to acquire customers than it stands to make from those same customers. 

While a ratio that’s higher than 3:1 might seem like a good thing, it might mean there’s more you could be doing to bring in customers. If your LTV to CAC ratio is closer to 4:1 or 5:1, consider trying out a new customer acquisition strategy that increases your marketing cost.

Who should track CAC and LTV, and when is the best time to track them?

CAC and LTV are typically calculated and forecasted by marketing managers across industries. However, these metrics are of particular interest to startup founders whose goals are to evaluate their business’s prospects and earn the trust of investors. They’re similarly important if you work for a SaaS company or any other organization that relies heavily on customer value to operate.

Because CAC and LTV rely on already established patterns of spending and selling, it’s best to wait a few months before you begin tracking these metrics or until you have one or two marketing campaigns under your belt.

Track CAC and LTV for a clearer picture of your customer acquisition efforts

Together, CAC and LTV tell you a lot more about the value your customers contribute than they do individually. Monitoring these metrics as well as your CAC to LTV ratio continuously will help you reassess your marketing strategy and allocate your marketing spend appropriately. For best results, wait until your first marketing campaign is complete to begin tracking these metrics.

The table below provides a quick roundup of key pointers we covered: