The True Cost of Building a SaaS Business
7 minutes 45 seconds read
What is CAC?
Some call it CAC, some call it COCA. To all, it’s Cost of Customer Acquisition. A metric that most of us in the SaaS space are familiar with. It’s an unfortunate reality that gaining customers requires heavy upfront investment. CAC is a key measure to understanding business success. And, at the rate it has grown over the last 3 years, we need to pay more attention than ever before.
First things first. What is CAC and how do we calculate it?
Cost of Customer Acquisition (COCA or CAC) is the amount of money a company invests in a potential customer in order to convert them. CAC accounts for each and every touch point from video pre-roll ads to sales calls to content marketing efforts. These costs give you an idea of the total investment needed to gain a customer, but since all customers (and more importantly, all contracts), are not created equal – you can’t look at the CAC of a $12k contract and a $12MM contract with the same weight. To even the playing field, we will look at CAC as the cost of acquiring $1 in new revenue.
How is CAC changing?
forEntrepeneurs and Pacific Crest recently published their “2015 Pacific Crest SaaS Survey.” In the report, they looked at the CAC per $1 of revenue from: new customers, renewed contracts, and upsells on existing customers. Some of their findings were unsurprising; for example, the cost to acquire a new customer is higher than the cost to renew a contract. What was surprising? The disparity between those two costs:
The median cost to acquire a dollar of revenue from a new customer is $1.18. That’s more than 4 times the cost to upsell to an existing customer ($0.28) and more than 9 times the cost to renew an existing customer ($0.13).
What’s more alarming? In 2014, the CAC for new customers was only $1.07 and in 2013 it was just $0.92
Obviously, costs have escalated since 2013. So why are prices rising year over year? To understand this growth, we should take a closer look at the sales methods employed by SaaS companies. According to the 2015 Pacific Crest SaaS Survey, field sales is by far the most expensive sales tactic for acquiring new business, at $1.14 CAC, and inside sales follows not far behind, at $0.90. Of the various methods, internet* sales is the only tactic that has seen a decrease in cost between 2014 and 2015, dropping from $0.54 to $0.42.
CAC SPEND BY PRIMARY MODE OF DISTRIBUTION
Overall, field, or outside, sales is still the most common primary mode of sales and marketing distribution, with 41% of companies relying primarily on the field sales method, according to the “forEntrepreneurs 2015 SaaS Survey Infographic.” Companies with the greatest ACVs (Average Contract Value) are especially dependent on field sales. By contrast, only 21% of SaaS vendors rely on inside sales, and only 5% are looking to internet sales – the most affordable option by far.
As Jeremy Boudinet points out in his 2015 article “The State of B2B SaaS Sales,” outside sales is a heavy cost burden (the average outside sales call costs $308; the average inside sales call costs $50), but the cost of inside sales has also been growing as historic processes become less efficient.
- Average SaaS inside sales compensation hit a record high in 2015, continuing five consecutive years of growth.
- In the “Bridge Group 2015 SaaS Inside Sales Survey Report,” David Skok reports that in 2015, inside sales reps had an average 6.6 meaningful conversations with sales prospects a day. This is a nearly 34% drop from the 2012 average of 9.5.
- Average ramp-up time for a new inside sales rep grew by more than a month between 2010 (4.2 months) and 2015 (5.3 months), reducing reps’ time at full productivity.
CAC is a critical measure on its own, but you also have to be mindful of the time it takes to pay off.
WHEN IS THE PAYOFF?
Once we’ve put in the hours and the cash to lock in a customer, how long does it take to pay off? For many companies, quite a while. The “2015 Pacific Crest SaaS Survey – Part 1” found that the median CAC payback period for SaaS companies is 12 months, but timing varies widely, from <6 months (31% of companies) to >2 years (8% of companies). In “SaaS Metrics 2.0 – A Guide to Measuring and Improving what Matters,” David Skok argues that, outliers aside, the best practice is to keep time to recover CAC below 12 months to maintain a sustainable business model.
Unsurprisingly, just as sales distribution model affects CAC, it also influences payoff time. The “2015 Pacific Crest SaaS Survey – Part 1” found that field sales-dominated companies have 20% longer CAC payback periods than those primarily using inside sales which in turn have approximately 20% longer CAC payback periods than those relying primarily on internet sales.
MEDIAN CAC PAYBACK PERIOD BY PRIMARY MODE OF DISTRIBUTION
In an industry where monthly subscription models abound, a lengthy payback period not only affects revenue recognition, it also makes the risk of never receiving payoff a real possibility.
What can we do to lessen CAC and reduce payoff time?
While there isn’t a simple fix, and each business will be subject to various customer, product, and internal constraints, there are ways to reduce your CAC.
Focus on growing your inbound marketing practice.While this may require heavy investment of resources upfront, once an inbound marketing practice has been fully developed, it will engage consumers with minimal effort and no sales calls. Even if it doesn’t bring in new leads, inbound marketing can still help to nurture leads and close deals. “The State of B2B SaaS Sales” found that 82% of buyers viewed at least 5 pieces of content from the vendor they eventually chose.
Reduce dependence on outside sales. Replace field sales with inside sales, when possible, to save overhead. This shift is already starting to take place: 40% of large technology companies planned to increase their inside sales headcount in 2015 according to “The State of B2B SaaS Sales.” If you already utilize a heavy inside sales force, take it a step further by streamlining processes. Inside sales reps report that the only spend 33% of their time actively selling, and 71% say they spend too much time on data entry. Simplifying processes and introducing more intuitive, automated software is key to cutting costs in this arena.
Remove unnecessary touch points. Save money and reduce customer frustration: 75% of buyers would prefer not to meet face to face with salespeople (Greg Klingshirn for SalesLoft “Inside vs. Outside Sales”). If you feel like your product is complex enough to warrant an in-depth explanation, direct prospects to an interactive demo that they can explore at will. If prospects still have questions, make it easy for them to engage with a rep. Of course high-consideration, complex purchases will require human interaction, especially as you move toward finalizing a deal. In that case, focus on reducing touch points earlier in the funnel, when the prospect needs less hand-holding. Free trial periods can also act as a low-touch conversion method. Approximately 60% of SaaS companies derive revenues from ‘try before you buy’ options; 30% derive the majority of their new ACV through this method (“2015 Pacific Crest SaaS Survey – Part 1”).
Increase utilization and effectiveness of internet sales.Use content marketing and SEO to pull in leads, then set up A/B testing to optimize the experience for incoming traffic. Build on this by segmenting your prospects by business size, industry, or another characteristic. Identify the optimal sales model for each category, rather than a one-size-fits-all approach. If there are behavioral patterns among high-conversion groups, you will be able to quickly recognize, and capitalize on them.
Now it’s your turn. Take a look at your own CAC numbers. How do they compare to the results we’ve found? How are you working to keep costs low, without sacrificing the customer experience?
*Internet Sales refers to no-touch conversions. Traffic driven to the site via SEM, Pay per Click Ads, Inbound Marketing, or other automated channels. Visitors convert without ever interacting with a sales person. Channel Sales refers to selling through a distributor.