Measuring CAC Payback by channel is a must-have strategy if you are looking to scale your software business. This will help you design a predictable, forecastable, and scalable go-to-market motion.
In the early stages, your company lives and dies based on its cash management. You must know your runway and manage cash, otherwise there's no hope for your company. If you have a bootstrapped business (self funded with no outside capital) it forces you to track CAC and CAC payback closely. However, as a venture backed startup, it’s easy to lose touch over this important measure of progress. A VC funding cushion and too much focus on growth can mask what is really happening in the business. Your team has to be methodical and data-driven about tracking how much it costs to acquire a customer for each lead source (CAC = Customer Acquisition Cost) and know when you will return that investment back (CAC Payback). This tells you how much cash the business needs before turning a profit on a particular channel. A shorter payback enables a more profitable business and allows you to deploy that capital to grow faster. In addition, the business will be able to forecast future revenues more accurately and manage marketing costs effectively. I have found CAC payback to be the north star metric and the best measure of how capital efficient a go-to-market engine is.
CAC Payback = Sales & Marketing Expenses in Period / (New MRR Acquired in Period * Gross Margin)
CAC = Customer Acquisition Cost
MRR = Monthly Recurring Revenue
Example channels: Cold Call; Email; Conferences; Radio advertising; Google ads; Linkedin Ads; Direct Mail; Review websites; etc.
A good rule of thumb is to aim for a 12 month payback. There are arguments that it’s ok to stretch higher for Enterprise deals and you should aim lower for SMB, but 12 is a good target to make things easy at the early stage. When payback by channel is tracked and discussed regularly, it shows that your team is detail-oriented, makes data-driven decisions, and is thoughtful about sales and marketing spend. It also indicates that you understand the importance of finding predictable and repeatable growth as well as directing sales and marketing budget responsibly.
Note: CAC Payback is a good scaling metric and tool to grow – so let's assume a healthy (Lifetime Value) LTV:CAC ratio and healthy retention. If retention isn’t healthy, CAC Payback is less of a priority given that incremental customer acquisition won’t give you a great return. In this scenario the business should most likely prioritize finding better product-market fit and retaining existing customers. See benchmarks for LTV:CAC and Churn by customer segment: SMB, Mid-Market, Enterprise..
The blended CAC Payback trap
Many SaaS startups fall for the blended CAC Payback trap where all the channels are combined in their analysis. This makes it challenging for the founder, sales leader and marketing leader to explain what go-to-market motions are driving healthy growth for the business. To do this well, the company needs spend and revenue tracking by lead source, which is typically managed in a CRM. The art of testing, iterating, and scaling channels based on payback helps inspire more collaboration between marketing and sales. Some channels will fail. Some channels will show consistent success and prove lucrative month over month. Best in class data-driven GTM teams track this and can explain in detail what they have tested and why they are devoting resources to certain initiatives. Hopefully you will find several channels that have healthy CAC payback so you can continue to iterate and optimize them for growth.
The Benefits of Tracking CAC Payback by Channel: Improved Sales and Marketing Forecasts, Enhanced Credibility, and Stronger Business Performance
When payback is only blended, it will often surface when there’s unexplainable forecasts and no data to justify the growth plan. That’s why it’s very important to go a step further and track payback per channel. When this one adjustment is made, it usually results in a better storyline and better data to support the sales and marketing plan. Ultimately this makes the team look more credible when explaining why certain hiring decisions or budget allocations are made. This also helps build more buy-in from the executive team and board when making decisions.
For SMB and Mid Market deal sizes – Measuring Success Per Channel Solution: Red; Yellow; Green Test
Red - Greater than 12 month payback.
Yellow - 12 month or less payback
Green - 12 month or less payback and triple the spend and/or headcount; achieve triple or more Sales Qualified Leads - SQL's and triple closed won deals - should proportionally scale.
Green + Bonus - Green status and in addition - have proof that it can scale by 10x - increased spend by 10x on the channel and grow revenue by 10x.. The payback should remain under 12 months. (The primary goal of ramping up spend is prove that you have a channel that can last vs. flame out)
Cash Flow Bonus - Aim to get paid up front which will help with cash flow and growth. This allows the business to reinvest the money right away into top performing channels.
Find channels that are green (note - channels need to be properly tested, given enough time and budget). The most valuable channels for a business are the ones that achieve green + a bonus - which are the most scalable and predictable revenue channels. A good investor and GTM leader will deeply try to understand these.
The big gap in CAC Payback for Enterprise deals
It’s a long wait to have “closed - won” deals to report revenue on the CAC Payback ratio with enterprise deals that have long sales cycles. An alternative to CAC Payback in this scenario is CAC:SQL - Sales Qualified Lead can be used as a good leading indicator to measure if a channel has momentum and promise. Another alternative to CAC Payback is CAC:Weighted Pipeline (The weighted value of pipeline is the value of deals based on what stage they are at - each stage gets a percentage probability of closing). Your team can spend many months waiting to measure progress off closed deals for Enterprise deals and burn a lot of cash on things that potentially won't scale. CAC:SQL and CAC:Weighted Pipeline can help your Go-To-Market team decide when to invest more or kill a test based on some of these leading indicators of measuring success. Cash burn is important and the startup can’t afford to be unsure how each lead source is performing.
Build a more data-driven and enduring startup and track CAC Payback by Channel
400% revenue growth is nice, but that could also mean that your team hacked together a bunch of things to generate revenue streams that poorly scale. It’s important to know why things worked or didn’t and build a strategy around CAC Payback and track it by channel.
When adopted, it will manifest a more data-driven culture, help you understand your business better, align sales and marketing, build more reliable and accurate forecasts, help your team spend more responsibly, and potentially help your company grow faster with less cash burn.
When you find proven and scalable channels, the more fundable, enduring, and better positioned the company will be. I hope this article helps you build a culture of data-driven decision making and a more durable and everlasting business.