Every ecommerce business should strive to optimize the return on their marketing investment by improving their customer lifetime value (CLV) to customer acquisition cost (CAC) ratio.
To achieve this, you need to implement a comprehensive strategy that focuses on refining sales funnels, website design, and customer data analysis to drive better conversions and personalize content or offers for customers.
However, one of the challenges (which we’ll look into deeper in the guide) is that most advice out there for calculating and optimizing your CLC:CAC ratio is geared towards a software as a service (SaaS) or monthly recurring revenue (MRR) model — which ecommerce stores can’t replicate (without a subscription-only model).
This article will cover all you need to know about CLV and CAC to help you grow your ecommerce business, including:
The basics of CLV and CAC
Why optimizing CLV:CAC ratio is vital to success
How to calculate CLV:CAC ratio for ecommerce brands
What’s a good CLV:CAC ratio?
How to improve your CLV:CAC ratio
The challenges and limitations of CLV:CAC for ecommerce brands
How CLV:CAC compares to other ecommerce metrics
The basics of CLV and CAC
The first step to optimizing your CLV:CAC ratio is understanding customer lifetime value (CLV). CLV (also known as LTV or CLTV in other circles) is the total amount of money a customer spends on your products or services over their entire customer journey.
You can calculate CLV using various methods, such as analyzing data from past purchases or measuring their future potential based on current behavior (we’ll cover this in more detail shortly).
CAC represents the cost of acquiring new customers; this includes all expenses related to marketing campaigns and sales efforts to attract them to your business.
Once you have your CLV and CAC figures, you can calculate your CLV:CAC ratio and take steps to optimize it.
You can calculate CLV:CAC ratio by dividing your average customer lifetime value (over a given period) by the customer acquisition cost (over the same period). Again, this is easier said than done for ecommerce businesses without an MRR model, but we’ll show you how.
The ratio effectively measures the return on investment for each dollar your brand spends to acquire a new customer.
Why optimizing CLV:CAC ratio is vital to success
By having a positive CLV:CAC ratio, you can ensure that you are generating more revenue than you spend on acquiring customers. A good CLV:CAC ratio helps you accurately measure your return on investment (ROI) and make informed decisions about allocating resources for effective customer acquisition and retention.
You need to track the CLV:CAC ratio to identify trends in your customer behavior, such as the type of customers most likely to remain loyal and helping brands target the right people when investing in marketing or other activities.
This can help them focus on retaining existing customers rather than allocating a budget for new ones. Additionally, having insights into which channels or tactics generate profitable customers helps businesses focus their investments better and increase ROI.
A successful CLV:CAC strategy can also help you create loyalty programs with incentives such as discounts or rewards, ensuring that customers return and generate more revenue over time. This also encourages referrals, acquiring more potential customers at no additional cost.
By optimizing the CLV:CAC ratio, you can ensure that you get the maximum returns from each customer acquisition effort to improve profitability and reduce churn rate in the long run.
Optimizing the CLV:CAC ratio is an essential element in the success of any business. It helps you determine how much you can spend on marketing and customer acquisition while achieving a return on investment (ROI). Having a good CLV:CAC ratio is the key to improving profitability and ensuring your business can grow sustainably over time.
How to calculate CLV:CAC ratio for ecommerce brands
Calculating your CLV:CAC involves three different steps:
Calculating your CLV
Calculating your CAC
Putting them together for the CLV:CAC ratio
Calculating CAC
Calculating CAC is fairly straightforward, you only need to add up all of the costs associated with acquiring your customer and divide the sum by the number of acquired customers in a given period, which can include:
Pay-per-click (PPC) advertising or other search engine marketing (SEM) initiatives
Sales team salaries if applicable
Any external contractor payments (e.g., copywriters, agencies, designers, etc.)
Cost of sales, which often includes payment fees and shipping
Fixed costs such as marketing software subscriptions, etc.
The simple formula for calculating CAC is:
(Cost of sales + cost of marketing) / Number of new customers = CAC
For example, let’s say last year you invested $10,000 in sales and $15,000 in marketing as a relatively new and small brand. And in that year, you gained 100 new customers on top of your existing ones, your CAC would be $250.
CLV, on the other hand, is a little trickier.
Calculating CLV
Manually calculating CLV requires you to use a few other calculations, so follow these steps:
Calculate your average purchase value. To do this, use this formula: Total revenue / Number of purchases (in a given timeframe, e.g., a year) = Average purchase value
Calculate your purchase frequency. To do this, use the formula: Number of purchases / Number of unique customers (in given time frame) = Purchase frequency
Calculate the customer value by multiplying the average purchase value by the average purchase frequency
Determine your average customer lifespan. For ecommerce businesses, this one is tricky. If you have enough data, you can use a churn rate analysis and transactional data to figure out the average lifespan of a customer. But to offer a general rule of thumb, if a customer’s time since their last purchase was 3x the average purchase interval, you can consider them churned. So, look at the average time between first purchase and churn. With all this data, your average customer lifespan will come from this formula: (Sum of all customer lifespans / Total number of customers)
Multiply the customer value by the average customer lifespan.
But in all, the formula for calculating ecommerce CLV is:
(Average purchase value x purchase frequency) x average customer lifespan
Here’s an example with some figures:
Average purchase value = $80 ($80,000 / 1000)
Purchase frequency = 4 (1000 / 250)
Customer value = $320 ($80 x 4)
Customer lifespan = 3 years (example)
CLV = $960
Or, formatted as a formula:
($80 x 4) x 3 = $960
Calculating CLV this way is long-winded and only based on past data. However, if you’re a LoyaltyLion customer, you have access to a customer loyalty dashboard that gives you a nuanced predictive calculation of CLV which makes calculating CLV:CAC a lot easier.
Getting your CLV:CAC ratio
After calculating both your CLV and your CAC, you’ll have your ratio.
In the examples above, we have a business with a CLV:CAC ratio of $960:$250, or rather 96:25 — which is very close to 4:1. In this case, the example brand could probably afford to spend a little more on marketing to grow the business further.
What’s a good CLV:CAC ratio?
The general ideal ratio should be at least 3x, meaning that for every dollar spent on acquisition, three dollars should be returned in value over the lifetime of that customer. Optimizing this ratio is important because it helps you ensure you’re not spending more than you will get back in return.
For example, let’s say, over the last 12 months, you had an average CLV of $500 and your average CAC was $165 — that would mean your CLV:CAC ratio is 3(ish):1.
However, if the CAC was the same but your CLV was higher, say $750, that means you have a significant opportunity to invest more in your marketing for growth. On the other hand, if your CAC was $165 and your CLV was $130, you’re spending more than you’re getting back, which is a big red flag that your current model is unsustainable.
This ratio (and knowing what a good one is) helps you understand which initiatives successfully acquire customers. This increases efficiency across departments and allows businesses like yours to allocate resources to activities more likely to drive growth.
How to improve CLV:CAC ratio
If your ratio isn’t looking as good as you hoped, there are some ways to help you improve it — but it’s worth bearing in mind that there are no immediate solutions (other than reducing your marketing spend, if it’s through the roof). Most solutions need time to take a noticeable effect. Here are our suggestions.
Refine sales funnels and website design for better conversions
If you’re looking to improve your CLV:CAC ratio then it’s essential to focus on tactics such as conversion rate optimization.
Optimizing website design elements, including page load times, checkout processes, and call-to-action buttons can increase the overall conversion rate, resulting in an improved CLV:CAC ratio over time.
For some practical advice, try running usability tests on your store with tools like Lyssna or Maze to get granular and actionable insights about what works and what doesn’t for your customers.
Take advantage of marketing automation
It’s unlikely that you have zero automation (otherwise, how do your customers get transactional emails?). However, automated email and SMS marketing can give you a huge boost in customer retention with the right strategy.
Beyond segmentation (more details to follow), you should have solid email and SMS sequences that cover behavior-based triggers and time-based triggers.
For the former, set up email or SMS sequences for:
Loyalty program status upgrade (if they’re on a tier-based system)
Rewards available based on points balance
Some time-based triggers to set up also include:
Birthdays or other holiday events
Points expiry
Specific promotional campaigns
Having a series of automated email or SMS equences helps keep your customers in the loop and engaged with your brand.
Grow user-generated content or consider an influencer strategy
User-generated content (UGC) and influencers help your brand form good social proof — customers trust friends and reviews way more than advertising (93% and 91% versus 38%).
Try focusing some of your initiatives on generating more UGC — it’s a strategy that The Pulse Boutique honed in on with great success. The brand offered significant loyalty points to customers who wrote reviews on its site, and more if the reviews included photos, as well as points for social media follows.
These changes in approach led to a 39% increase in repeat purchase rates and a 19% increase in average order value (AOV), both of which contribute to higher CLV.
Try brand partnerships
This one might seem a little left-field, but brand partnerships can also be a lucrative source of both customer acquisition and retention. The obvious tip here is to avoid partnering with brands that are direct competitors (this would be unlikely to happen anyway).
The key is to find brands with a similar audience but not direct competitors — a pretty famous example of brand collaborations is GoPro and Red Bull, one is a small (but powerful) camera and the other is an energy drink. Both are very different products, but both have a huge audience in the extreme sports niche.
On a smaller business scale, another example could be a sports attire brand partnering with a sports supplement/wellness brand.
Brand partnerships should inspire creativity, but ultimately, the purpose is to expose your brand to the partner’s audience as well as retain existing customers by demonstrating your brand values.
Create a tiered loyalty program
One of the best methods of improving CLV is creating a tiered loyalty program. Why? Because it turns engagement with your brand into a challenge or game (which many humans love), creates a sense of exclusivity for top-tier loyalty members, and customers can see they get more value with loyalty.
Some of the biggest brands in the world use a tiered loyalty program, including Starbucks, Sephora, Lancôme, Marriott, Uber, American Airlines, and the list goes on.
But let’s talk numbers. Many LoyaltyLion customers who use the tiered program approach see great success, including Astrid & Miyu. After they launched their program, the brand saw over 50k signups in nine months, 220% more purchases from redeeming members, and a 40% increase in total revenue.
Experiment with different pricing strategies or product bundling
Another way of improving CLV:CAC is by experimenting with different pricing strategies or product bundling. For example, offering bundles of products at discounted prices can allow businesses to increase the average purchase value while providing more perceived value for customers.
This can lead to increased profitability while boosting customer loyalty if customers feel they’re being given a good deal.
As an example, one brand that uses this approach well is esmi Skin Minerals, which offers several product bundles in its store, including pre-made bundles or customized bundles.
Segmenting your customer base for a better understanding
One of the critical considerations when improving CLV:CAC is understanding who your customers are. By segmenting customers based on their purchase behaviors or other criteria, such as demographics and interests, it’s possible to create tailored promotions that help to increase customer loyalty.
But to improve CLV, we can take segmentation a step further. Using loyalty program data, you can create segments on who your most loyal and valuable customers are versus those who generate less value, and see if you can spot trends in behavior or preferences.
This analysis can help you identify other potentially high-value customers as well as which initiatives your high-value customers engage with the most.
However, this method gets a bit tricky when you consider seasonality, as your store might get big peaks and troughs over the course of a year. To get around this, you can use Shopify’s Cohort Analysis report to segment customers based on the date of their first purchase. That way, your data is less likely to be skewed.
The challenges and limitations of CLV:CAC for ecommerce brands
As you’ve probably guessed by now, the CLV:CAC ratio isn’t a perfect indicator of success for ecommerce brands. It’s harder to calculate in ecommerce compared to other industries using an MRR model thanks to a few factors:
“Customer lifetime” is more vague in ecommerce. With MRR-based businesses, or “contractual businesses”, it’s clear when a customer is done with your brand because they stop their subscriptions, effectively announcing the end of their customer lifetime. But for ecommerce brands, re-engagement can happen very quickly or not again until years later.
It can be difficult to meaningfully segment customers by profitability. If your store has a wide variety of products at different price ranges, it’s harder to get a sense of big-picture CLV without spending significant time scraping individual customer data.
The values change over time. As your store (hopefully) grows, you’ll notice that your retention rates will also inevitably change. On top of that, ecommerce stores often have seasonality differences, which can influence repeat purchase rates. Both of which have an impact on your CLV/CAC ratio. So, you need to check and remeasure the ratio regularly.
Acquisition costs can also change. You can’t control how much advertising providers charge for their services, and you might find your costs increase through no fault of your own. On the other hand, if your store is doing really well, you might decide to invest more in acquisition — the point being, both CLV and CAC values can fluctuate.
Highlighting these challenges isn’t supposed to put you off from measuring CLV:CAC entirely, but it should give you a healthy perspective that it’s not the only metric you should look at for measuring the success of your store.
How CLV:CAC compares to other ecommerce metrics
So, if CLV:CAC isn’t perfect and not a metric you should use in isolation, how do other metrics compare? Let’s take a look at a few common and useful ecommerce metrics.
Average order value
Your AOV reflects your average customer spend and helps you figure out what initiatives are encouraging customers to add more to their baskets. For example, you can use this metric to figure out the total AOV of your customers or break it down to revenue attributed to promotional campaigns or your loyalty program.
Formula:
AOV = Total revenue / Total orders
E.g., $8,000 / 60 = $133.33 AOV
Compared to CLV:CAC, this metric is easier to measure and gives you good insights regarding what initiative is proving to promote better growth.
Churn rates
Ecommerce churn is another murky area, just like CLV:CAC, it’s much easier for MRR businesses to measure churn rates. However, it’s not impossible, and the metric can be a useful overview of your business sustainability.
We have a guide on calculating ecommerce churn rates published as the method is more involved than a simple formula, check it out if you’re interested in learning more about ecommerce churn rates.
Purchase frequency
For ecommerce stores, measuring purchase frequency reflects your customer loyalty and their tendency to repurchase. Using this metric, you can identify your high-value customers and tailor your marketing messages accordingly.
Formula:
Purchase frequency = total orders (timeframe) / unique customers (timeframe)
E.g., in the past month, 300 orders / 75 unique customers = 4 purchases per customer.
Compared to CLV:CAC, this metric gives you a better idea of your customer retention and actions to take — if you have a low purchase frequency rate, it can mean that customers aren’t satisfied with your products. The next step would be to find out why.
Customer satisfaction score (CSAT)
The CSAT score can help you figure out how customers feel about your brand or products at particular touchpoints, which can help you figure out areas for improvement to optimize the customer journey. You’ll usually measure CSAT through surveys after purchases or support ticket resolution.
Formula:
CSAT = (% of Satisfied Responses) / (Total Responses) x 100
Compared to CLV:CAC, this metric is not about predicting growth per se, so it’s not as useful in that regard, but it can give you key customer-based insights that can help you with optimization and generate a more positive impact on CLV.
There are more metrics you can compare, and we have a guide to key metrics already published that you can read to gain a better understanding of measuring ecommerce and loyalty program success.
How LoyaltyLion helps brands improve CLV:CAC
LoyaltyLion is one of the best tools for brands that want to improve their CLV:CAC. Our platform helps you maximize your return on customer acquisition costs by providing a suite of features designed to increase customer loyalty and reduce customer churn.
Through our rewards programs, you can incentivize customers to remain loyal and reward them for their continued support. This helps significantly boost CLV:CAC ratios as customers are encouraged to make repeat purchases and spend more each time they shop with you.
LoyaltyLion’s data-driven platform also allows you to gain valuable insights into the behavior of your customers, which helps you create more targeted marketing campaigns based on the preferences and interests of individual consumers. The personalization of the customer experience through tailored messaging encourages customers to remain loyal for longer.
Not only does LoyaltyLion help you drive higher ROI from existing users, but it also helps you build emotional connections with those consumers so that they become advocates for you – meaning that they will actively promote you across different channels and encourage others to join too.
You can then incentivize these advocates with additional rewards or points to acquire new customers at a much lower cost than regular acquisition strategies, making it easier to scale quickly without sacrificing profits.
Overall, LoyaltyLion offers a powerful solution that helps you build relationships with your customers while boosting CLV:CAC ratios through meaningful data-driven interactions. Through significant increases in customer loyalty, improved communication with users, and better advocacy programs, you can increase revenues while keeping costs down – all of which can be effortlessly tracked via LoyaltyLion’s powerful analytics features.
To learn more about how LoyaltyLion can improve your CLV:CAC, request a demo to book a call with our team.
About the author
Alexander Boswell
Alexander Boswell is the Founder/Director of SaaSOCIATE, a B2B MarTech and eCommerce Content Marketing Service, and a Business PhD candidate. When he’s not writing, he’s playing baseball and D&D.
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