LTV and CAC: Learn about the main metrics to assess the financial health of a SaaS Startup
Updated: Nov 28, 2022
Have you ever heard of LTV and CAC metrics and not quite sure what they are or how to calculate them? Or work at a SaaS startup, but not sure how to assess whether the business is doing well or not? In this post we will clarify your doubts!
A Startup often takes years to generate its first profits, due to investments or first income obtained being allocated with full focus on its growth, which makes it difficult to understand if the company is growing in a sustainable way. One of the best ways to get this insight is through the LTV (Lifetime Value) and CAC (Customer Acquisition Cost) metrics. Taken together, they are able to translate well the efficiency of the marketing and sales funnel and whether your organization, despite not being profitable yet, is growing in the right way.
It is worth noting that these metrics are mainly aimed at SaaS Startups (Software as a Service), which make their product available as a service, being used directly over the internet and paid on a recurring basis by their customers.
LTV (Lifetime Value)
LTV stands for Lifetime Value, it is the total value that a person brings to the company during the entire period as a customer and is calculated according to the following equation:
LTV = ARPA X Gross Margin X Client Lifecycle
ARPA (Average Revenue Per Account): Average revenue per account or customer;
Gross Margin: Gross Margin of the product sold;
Client Lifecycle: Average time that people remain as clients.
Thus, the greater the revenue per account, product margin and time the customer remains, the greater will be their value to the company.
Breaking this equation a little further, we can learn about other metrics that are also fundamental for the business:
ARPA = MRR / Accounts
MRR (Monthly Recurrent Revenue): Monthly recurring revenue earned across all customers;
Accounts: Total accounts or customers that the company has.
Client Lifecyle = 1 / Churn
Churn: It is the rate of account cancellations (lost customers) in a given period. There are two ways to measure it:
% Logo Churn: Rate based on volume of customers lost in the period to total customers at the end of the previous period;
% MRR Churn: Rate based on monthly recurring revenue from lost customers versus recurring monthly revenue from all prior period customers.
CAC (Customer Acquisition Cost)
CAC stands for Customer Acquisition Cost, that is, the average cost to acquire a customer in a given period.
CAC = Marketing and Sales Expenses / New Accounts
Marketing and Sales Expenses: All expenses used for the company's marketing and sales, such as:
Sales and marketing team salaries;
Website design and production of other graphic materials;
Marketing and sales consultancy.
New Accounts: New accounts (new customers) acquired in the period.
In order to have greater clarity on the company's financial health, the calculation of both metrics is essential. Two numbers are used as a parameter for SaaS Startups: LTV must be 3x greater than CAC and CAC must be recovered within 12 months:
We hope that this explanation of the importance of LTV and CAC and the use of parameters will help you understand the financial health of your Startup. To go even deeper into the topic, we recommend reading the article Saas 2.0 Metrics – A guide to measuring and improving what really matters, which served as the basis for consolidating excerpts from this post and has many other publications that further detail the SaaS metrics.