Demystifying the Difference between CAC and CPA

With help from one of the greatest minds in growth, Brian Balfour (Founder and CEO @ Reforge and ex-Vp of growth @ Hubspot) we will demystify the differences between CAC and CPA to understand where, when and how to use them.

As a guiding principle to your growth strategies, it is important to note these key differences in order to make the best decisions for your growth. The common misconception with these two metrics is that you can use them interchangeably, and that is wrong. 

Firstly:

CAC = customer acquisition cost

CPA = cost per acquisition

Note that customer acquisition is not CPA. And vice versa. 

CAC specifically measures the cost of acquiring a customer, where the definition of a customer is a paying user. Conversely, CPA is the cost of acquiring a non-customer, or more aptly, a non-paying user. This can be anything depending on your OMTM: cost per registration, cost per signup, cost per lead, cost per activation. 

Even though the two metrics are intrinsically different, CPA is used to measure the cost of leading indicators for the overall CAC.    

Models for CAC and CPA

B2C model

Typical B2C models don't require a sales cycle since the conversion time is much shorter. Someone decides in the moment whether to convert into a user (download/register etc). From then, the product would then spend time converting a free user into a paying customer. 

• CPA - cost per registration, cost per activation, cost per signup, cost per lead

• CAC - cost per paying user, cost per advertiser (as Facebook example)

B2B model (and Freemium models) 

Conversely, a B2B model (and Freemium model) requires a sales cycle with lead time to convert a user into a customer. Additionally, the CPA of  a user would then be a leading indicator for the overall CAC of your customers. 

• CPA - cost per signup, cost per lead, cost per registration, cost per activation

• CAC - cost per paying user in Basic plan, Pro plan or Enterprise plan (or equivalent)

Your model, your customer

At this stage you need to understand and define your business model and customer. Understand who/what a customer is to you and at what stage a user is converted into a paying user. The definition of your customer must stay consistent to dispel any confusion. For CPA, choose your OMTM to be the guiding light for all acquisition initiatives. 

CAC and CPA calculations

Here is the minimum viable CPA equation. Which works for any use-case and OMTM. 

CPA - cost per armoire...?

Below is the minimum viable CAC equation. It works well for typical B2C models with very short sales cycles and decision making. 

CAC - cool asa cucumber...?

Sales expenses take into account sales salaries, hardware, software, licenses and phone bills, to name a few. Marketing expenses also mean salaries, hardware, software licenses etc. Any expense or cost related to item that helps the sales and marketing teams convert users. 

What the basic CAC calculation doesn't account for are three key instances that will change how we look and structure said equation. How long is the sales cycle between lead and customer (for freemium: how long before user converts to customer)? How do you distinguish a new customer from a returning customer? And what are the costs for supporting a lead (or free user) before converting into a customer?

Sales cycle

Let's say you're a B2B payments platform like GoCardless. A lead comes in, and is initiates contact with the sales team. From this point it takes 60 days for them to convert to the Plus package. By not taking into account the sales cycle when calculating the CAC, you will skew your data and set you up for making the wrong decisions based on inaccuracies. 

For instance, imagine you run a large marketing campaign that launches in October. Your total spend (marketing and sales) for the month hits £50,000 and the users acquired that month is 500. You then divide the amount spent in October by the new users in October giving you a CAC of £100. 

Before this fictitious campaign began, a KPI of yours was to acquire new users at <£80, so in your eyes this marketing campaign actually failed.

However, if you took into account the sales cycle of 60 days, you would have noticed that in December the new users spiked and hit 900. Meaning the £50,000 campaign amount should be divided by 900, giving a true CAC of ~£55. Since £55 is less than £80, the campaign was a success. This would have been missed if the sales cycle was not taken into account.

Taking things further

We can make the CAC even more accurate through using average sales cycle lengths, but we would need to adjust the calculation to suit. Let us assume that the average sales cycle length is 60 days and sales expenses remain constant over the two month period. 

note: n = month

CAC - cost acquisition customer...?

Customer acquisition cost is the marketing expenses of two months ago plus half of the sales expenses of last month plus half the sales expenses of the current month. All of which is divided by the amount of new customers acquired during this current month. 

Marketing expenses in October were £25,000.

Sales expenses in November were £22,000.

Sales expenses in December were £22,000.

New users in December were 900.

Therefore, CAC = (£25,000 + £11,000 + £11,000) / 900 = ~£52

Key takeaways here are to really understand what your average sales cycle is, and to make sure you have a fully loaded CAC.

Fully Loaded CAC

Expenses should include:

• Salaries

• Overhead (rent, equipment, coffee)

• Money spent on tools (CRM etc)

Expenses should include (depending on your business model):

• Customer success (since your customer success teams improve retention which in turn positively affects customer acquisition)

• Product, engineering, design (as long as these teams build, create and implement product that influences customer acquisition)

• Shipping for free trials (if running free trials is integral to incentivising a non-paying customer to become a paying customer)

To make things easy on us, any team, product or tool that is used to acquire new users should be used to create a fully loaded CAC. E.g. if you have a free trial for a product, any costs associated to hosting that free trial should be used as part of the expense. Similarly, if you have B2B businesses with large customer success teams, such as GoCardless, then those should also be added to the CAC expenses since they definitely enhance the user experience and affect customer acquisition and retention.

Conclusion

• Define what a customer is to your business.

• Be aware of the differences between CAC and CPA.

• CPA is a leading indicator of CAC, but they are not interchangeable.

• Be aware of your sales cycle, if you have one, and be thoughtful when calculating your CAC.

• Any team, product or tool associated with the acquisition or retention of a customer must be included in the expenses to give you a fully loaded, accurate CAC. 

Are There Really Only 19 Channels For Growth?

19 channels for hockey stick growth

The ever sought after hockey stick growth graph

When strategising on how to grow Dribble, the book "Traction" by Justin Mares and Gabriel Weinberg (which is amazing), was a go-to resource. They did a tonne of research into customer acquisition channels, interviewed startups and founders to hear their success stories on how they grew, and ended up with a pretty concrete list of 19 channels for growth.

The theory behind this list is that they are the only true channel that spur on growth, and within it you can find the 1-2 channels that will scale your business. However, I wanted to dig a little deeper into a few success stories to understand whether we need to add, subtract or keep the same number of channel groups on this list. 

Customer Acquisition Channels

Here they are in all their glory

Let's dive in

Andrew Chen wrote an incredibly fascinating article about "what's next in growth", where he actually looked in the past to predict the future. Personally this article gave me greater foundation in how I foresee the evolving growth landscape. If you don't want to read the whole article here are my key takeaways: 

"technology changes but people stay the same"

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"ignore quick growth hacks. Only trust ideas that are 100+ years old"

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"growth opportunities will come from taking classic strategies - the stuff that's been around for 100 years - that are fundamentally anchored on human behavior, and anchoring them on new technologies while executing them"

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"growth opportunities follow: classic strategies x new platforms x smart execution"

When you think of growth you think cutting edge, you think new, you think tech-enabled. These are all true, however, the channels listed above aren't new concepts. They are not new channels that have only arisen since the launch of Uber, Airbnb, Facebook or Slack. They all came about many years ago - think pre-world wide web - and will remain 100+ years longer. As Andrew Chen quite rightly stated, they are anchored on human behaviour and we all know that hasn't changed...ever.

Let's look at some of the channels we might perceive as "new":

Engineering for growth (side projects)

A beautiful FREE stock photo from Unsplash

Definition: the building of a product or service that can have a positive impact to your core product or service.

Who - Crew and Unsplash

What did they do - Crew gaveaway their remaining high-res photos on a standalone site, Unsplash, with the goal to funnel in a new batch of users. The site was an mvp, they posted it on hackernews and waited. Within 24 hours they maxed out Google Sheets subscriber limit (it's 20k if you don't know) and funneled across a whole new set of users to Crew that envigorated their business. 

Why did they do it - they were running low on cash for Crew and needed to change their business model to stay afloat. Not only does this channel mean one builds a new product to influence another, it is anchored on a seperate growth channel, virality (wom)

Human bahaviour that influenced growth - since they gave away a VALUABLE in-demand resource FOR FREE, the community responded extremely well, spreading the word organically.

Old example of when it came about - the concept of side projects to influence a core project/business is not a new phenomenon. You see this a lot in the music industry. For instance, in 1978 the group KISS decided to run side projects where each band member simultaneously launch with a solo album to help boost the overall bands popularity and sales. Just like Crew and Unsplash, it worked. 

Existing platforms (OPNs)

The now infamous Airbnb cold email to Craigslist-ers about hosting on Airbnb. From the anonymous Jill D...who was most likely Brian Chesky himself

Definition: leveraging existing platforms or networks to grow your product/service. 

Who - Airbnb

What did they do - they found that the majority of their users and the overall market were listing and renting their houses on Craigslist. Ingeniously, they developed a way in which any Airbnb listing was given the option to list on Craigslist (even though it was not allowed), giving them much more reach than organically through their own products. All click throughs were re-directed to Airbnb and now we have a global phenomenon. This was just the beginning...they managed to do A LOT more to make it where they are now

Why did they do it - through market research their target market was already on Craigslist and wanted to leverage their network to bring on growth

Human bahaviour that influenced growth - using OPNs, you leverage any behaviour the existing network has already tapped into. This means the behaviours vary depending on network and whether they already "own" your target market.

Old example of when it came about - Brownie Wise from Tupperware, back in the 1950s, leveraged other peoples networks on a smaller scale (it can also be seen as an affiliate network). By tapping into the small gatherings of women to showcase the Tupperware product and sharing revenues with the women, Wise built a vast network of other peoples networks to grow the brand. 

Virality (word of mouth)

Snapchat logo - how's your Snap inc. stock doing?

Definition: in the case below we are using an organic viral channel, word of mouth. Not to be confused with artificial viral channels such as referrals or viral loops.

Who - Snapchat

What did they do - initially launched the product in college campuses (a select few) in the hope of initiating natural word of mouth. Although this tactic didn't succeed as planned, launching the product in select high schools did. Within a a few months the product became viral with main source of growth being WOM.

Why did they do it - cheap quality growth. It is inherent to the product that the word be spread because people need friends to send (naked pictures) snaps to. The network only gets stronger the bigger it gets. It's also the dream if your product inherently attracts new customers by being freaking awesome. Everyone wishes it, but only the few can capatilise. Has to be both organic to customer experience and expertly executed.

Human bahaviour that influences - Evan Spiegel believes Snapchat "makes communication a lot more human and natural". In this broad statement, he must also be referring to another human behaviour, sex. People enjoy sending NSFW pics to people since they last between 1-10 seconds and given the relative toxic environment high schools can be prone to, Snapchat was a great fit and spread like wild fire. Of course not all snaps were nudes, but you get my drift.

Old example of when it came about - a long long time ago, before internet, advertising, or any other formal marketing technique. If something was good, people told other people. Simple. But in 1970 - George Silverman, a psychologist, pioneered word-of-mouth marketing when he created what he called "teleconferenced peer influence groups" in order to engage physicians in dialogue about new pharmaceutical products. And that is all I will be talking about pharmaceuticals...

Influencer Marketing

Kim and Kanye = influencers

Definition - leveraging the network, influence, brand and trust from a person of interest (someone with a following) to grow your product or service

Who - there are hundreds of big companies who use influencer marketing, from the likes of Nike, Adidas, (pretty much any retailer), but I thought I'd give a little guy a chance - Dribble

What we did - found a niche on Instagram and Youtube across football fan pages of Premier League teams and "signed" their accounts to our "network". This later became a standalone influencer agency called Ninetylabs. We designed all creative to be posted across accounts and managed the campaigns across 100+ influencers totalling a reach of 10m football fans.

Why we did it - drive growth from a very active following and capatilise on the influencers trust. The networks we were creating already owned our target market.

Human behaviour - trusting a peer. The influencers build a following based on trust of their brand, tone of voice and opinions. Can be very powerful when coupled with a product/service that matches their audience

Old example of when channel came about - influencer marketing came about in the late 1800s with the likes of "Aunt Jemima - Pancake Flour", leveraging a fictitious persona to be a trusting face, name and character to sell flour. This was an artificial form of influencer marketing, since they made up the character (similar to Santa Claus from Coca-Cola). A little later in the 1920s Babe Ruth (the baseball player) was used to sell Tobacco chews. That could be the first real example of influencer marketing leveraging his fame and influence across the sporting communities in the US. Very interesting to see now how the adoption rate of influencer marketing has sky rocketed with many agencies popping up, such as, Butter Milk. 

What this means

The common denominator here is that all channels were invented/created/established a long time ago (50-100+ years ago). You can pick and choose any channel on the list and find the roots run deep around the cusps of revolutions and the beginnings of corporations. In light of this, I do believe the list is robust enough to maintain all 19 channels.

From the early days of these channels, the medium or platforms which customers are acquired has changed, however, the human behvaiour that drives said acquisitions has not.

That means one can predict the channels will remain the same while the platforms and technology will differ greatly.

The Future of Growth   

With this in mind, the new technologies will be leveraged across the classic channels to be executed in a way that will drive real growth.

Inspired by @andrewchen

Using the above image, try to imagine ways the classic strategies can work with emerging technologies. Such as:

• influencer marketing with VR

• building a machine learning side project to help facilitate growth 

• leveraging A.I to analyse creative and copy to make better design decisions across your online advertising campaigns.

Today you are starting to see some of the lines blurring, especially in the advertising industry where automation is taking over ad exchanges through programmatic. 

In conclusion, this has lead me to believe the customer acquisition channel list is robust enough to maintain all 19 channels. Each channel has a deep rooted history anchored around human behaviours. This pairing is vital and can be leveraged across any emerging technology, and that's where the innovation will lie. Emerging tech and emerging platforms will be where people win and lose. Keep an eye on how you can use the 19 channels and strategies across the new platforms and tech popping up. There is a movement happening, better get in front of it now. 

In addition, the channels themselves are intentionally quite broad terms and we should actually call them "channel groups". Reason being, you can have a load more sub-channels within each of them e.g. "content marketing" can mean either podcasts, infographics, video, long form blog posts etc etc. So one channel group can represent 5-10 channels, meaning the list could actually have the potential of being 190 in total. Other groupings are: "viral marketing" where you can have organic virality or artificial virality; "influencer marketing" where that can be guest writing on blogs or influencers on social networks. You catch my drift. 

Brains

FYI when using the customer acquisition list to form your growth strategy, in my last essay on the "4 things I wish I knew when cofounding my startup", I reference you should not go through this list in an organised fashion from top to bottom, rather through deductive reasoning by looking at your core business model and specific KPIs to judge where to begin.

E.g. if you're a mobile game whose goal is to hit 1m active users within the first year, 1-1 "sales" maybe won't be that channel to scale your business. however, would probably work if you're a B2B SaaS business selling enterprise business intellignence tools (since they'd probably be looking for 10 enterprise clients).

From there you can use a few growth processes to get the most out of each channel. Such as the G.R.O.W.S process, courtesy of the Growth Tribe.

P.S in light of the 19 channels for growth, the way Justin and Gabriel (yes we're on a first name basis) prioritise where to focus is through bullseye targeting. I will jump into in a follow up essay about this and how I aprroached it with my team.

If you like the above, feel free to check out "how I launched my iOS app" and how I'd improve it. And don't forget to signup to my newsletter for early access to content.