LTV/CAC Ratio
The ratio of Customer Lifetime Value to Customer Acquisition Cost, indicating business efficiency and profitability.
Definition
The LTV/CAC ratio compares the lifetime value of a customer to the cost of acquiring that customer. It's a fundamental metric for understanding unit economics and determining whether a business model is sustainable.
This ratio tells you how much value you're getting for every dollar spent on customer acquisition, making it essential for investment decisions and business strategy.
Why It Matters
- Business Viability: Shows whether your business model is fundamentally profitable
- Investor Confidence: Key metric that investors use to evaluate startup potential
- Growth Strategy: Determines how aggressively you can scale customer acquisition
- Channel Optimization: Helps identify which acquisition channels are most efficient
How to Calculate
Formula:
LTV/CAC Ratio = Customer Lifetime Value / Customer Acquisition Cost
Benchmark Guidelines:
- 3:1 or higher: Good ratio indicating healthy unit economics
- 1:1 to 3:1: Warning zone - may not be sustainable
- Below 1:1: Losing money on each customer - unsustainable
- Above 5:1: Excellent, but consider investing more in growth
Real-World Example
E-commerce Company:
- Customer Lifetime Value (LTV): $1,200
- Customer Acquisition Cost (CAC): $300
LTV/CAC Ratio = $1,200 / $300 = 4:1
This 4:1 ratio indicates healthy unit economics. For every $1 spent on acquiring customers, the company gets $4 in return over the customer's lifetime. This suggests the business model is sustainable and there's room for increased marketing investment.