Customer Acquisition Cost Payback Period “CAC Payback Period Benchmark Users Beware”
This week’s SaaS Barometer Newsletter is brought to you by SaaS Metrics Palooza 2024. If you missed it, 40 of the SaaS industry’s top leaders shared the latest in SaaS metrics are trending, and how leading companies are using metrics and benchmarks to inform decisions, achieve efficient revenue growth and maximize enterprise value creation.
Customer Acquisition Cost Payback Period
“CAC Payback Period Benchmark Users Beware”
Earlier in my career, I was so focused on being right that I often ignored the context of the situation or environment. I highlight this with an experience I had at a board meeting that became the catalyst for my passion for SaaS metrics and benchmarks…and the inspiration for this edition of the SaaS Barometer newsletter.
During the above mentioned board meeting, I was presenting a slide that highlighted that our CAC Payback Period (CPP) had decreased from 21 months to 16 months over the last 2 quarters. I also provided details behind what led to that decrease including an increased win rate, a higher ACV and improved pipeline conversion rates, which led to the decreased CAC Payback Period.
A board member commented that the CAC Payback Period should be 12 months or better, and that a 16 month CAC Payback Period was nothing to be celebrated ??.? Not only was I shocked by the comment, I immediately went into “justification” mode and asked the board member where that benchmark came from. They responded “from other portfolio companies” and “it was common knowledge”!?
In the next lack of self-awareness moment, I asked the following three questions:
?? What was the average ACV for those portfolio companies
?? Was their CAC Payback Period gross margin adjusted
?? Was that benchmark based upon New ARR bookings or Net New ARR
?? These questions did not make the board member my biggest fan…but they do provide context for today’s newsletter
CAC Payback Period
CAC Payback Period (CPP) is a SaaS metric that measures how many months it takes to payback the cost of acquiring new customers and the associated ARR
The SaaS Metrics Standards Board CAC Payback Period formula is:
One important note is the New Logo ARR denominator is multiplied by Gross Margin. Why multiply the new ARR by the gross margin? Because Gross Profit represents the cash available to "PAY BACK" customer acquisition costs after the cost to deliver the product is factored in.
An important nuance to the above CAC Payback Period calculation formula is the denominator includes new logo customer ARR only and not all growth ARR - more on that below.
CAC Payback Period - Multiple Calculation Methods
Below are? “different” ways that I have seen CAC Payback Period calculated:
?? Sometimes CAC Payback Period is calculated using both? "New Logo ARR + Expansion ARR" in the denominator. This will lead to a lower CPP as per the below example:
As you can see from the above example, by using both New and Expansion ARR, the CAC Payback Period is reduced from 22.5 months to 15 months representing a 33% decrease.
?? Sometimes the calculation will not adjust the denominator by the Gross Margin. You can see how not including Gross Margin impacts the CAC Payback Period using the same expense and new ARR as above:
Using the same New ARR, and Sales and Marketing expenses, but NOT using a Gross Margin adjusted basis, the CAC Payback Period decreases from 22.5 months to 18 months (20% decrease in CPP). When using New Logo ARR and Expansion ARR, the CAC Payback Period decreases to 12 months.
As you can see below, using different calculation formulas for the CAC Payback Period in private SaaS companies, the results are materially different:
?? Public company analysts will use a different value for the denominator because public companies do not disclose ARR, New ARR or Expansion ARR.? When calculating a public SaaS company’s CAC Payback Period, analysts will first calculate "IMPLIED NET NEW ARR" as (Current Qtr Revenue - Last Quarter revenue) x 4.
Then they will take the total Sales and Marketing Expenses from LAST QUARTER and divide it by Implied NET NEW ARR for the current quarter. Using that method, you can see the CAC Payback Period calculation in the example below:
For the above CAC Payback Period example, I used numbers that were an extrapolation of the Sales and Marketing expense ratio to total revenue for both the private and public calculations. I then used the same percentage of the quarterly new ARR and expansion ARR to total ARR, and then factored in the impact on Net New ARR using a 90% Gross Revenue Retention Rate.
Using this approach, the CAC Payback Period for a public SaaS company was 26.5 months, an increase of 18% - 221% from what a similar private company CPP would be using the four different CPP formulas I see being used for private companies. Overall CPP results are below:
CAC Payback Period Benchmarks - User Beware
Below are three different “views” of CAC Payback Period benchmarks from the latest Benchmarkit 2024 SaaS metrics benchmark report.? As you can see from the below charts, the answer to what is the RIGHT benchmark to use for CAC Payback Period is “IT DEPENDS”.? The three charts below show the CAC Payback Period benchmarks by:
CAC Payback Period Benchmarks: Filtered by Annual Contract Value
CAC Payback Period Benchmarks: Filtered by Company Size
CAC Payback Period Benchmarks:? Entire Population?
?? Another key finding is that CAC Payback Period is most highly correlated to Annual Contract Value. Lower ACV deals (< $1K) typically have a 6 months or shorter CPP while higher ACV deals (> $100K) often have a 24+ month CPP.? A higher CAC Payback Period for larger ACV deals is ok if retention rates are good and growth rates are at median or above.
Summary - CAC Payback Period Benchmarks?
I like using the CAC Payback Period to understand how long it takes to payback the "ACQUISITION" of a "NEW" customer measured in months after adjusting for Gross Margin.??
However, as you can see from the above, the inconsistency of how CPP is calculated makes using published benchmarks, especially public company CAC Payback Period benchmarks very difficult to use and? can even be very misleading!
?? If you are trying to understand the efficiency of acquiring new customers in a private SaaS company and to avoid the issues highlighted above, I recommend instead of using CAC Payback Period, use New CAC Ratio which measures how much Sales and Marketing expenses have historically been incurred to acquire $1 of New ARR. If you are trying to understand the Sales and Marketing investment required to grow $1 ARR from a combination of New logo and Existing Customer expansion, use the Blended CAC Ratio.?
The New Customer CAC Ratio and the Blended CAC Ratio are superior operator metrics and much more useful for determining how much S&M budget is required to acquire a specific amount of New ARR or New + Expansion ARR
??♂? How do you calculate CAC Payback Period?
?? Check out SaaS Metrics Standards Board for their standard definition of CAC Payback Period.
SaaS Talk with the Metrics Brothers features Dave “CAC” Kellogg, of @kellblog fame and Ray “Growth” Rike. Dave and Ray cover a wide range of SaaS Metrics topics and also cover the latest industry reports and benchmarks on a weekly basis.? You can catch an episode of their fast moving, banter and entertainment on your favorite podcasting app!!!