07 Dec LTV : CAC is The Oxygen Of Sustainable App Growth
Building a mobile app is not easy, it consumes energy, time and money but the outcome is generally more than satisfying. In order to keep that satisfaction high and get rewarded with your app in return for your efforts, you are to keep track of your app and there are some metrics that helps you on that matter. These metrics helps you to get a clearer view of what is going on with your app in the market and helps you to develop a strategy and that way you continue making profit and keep your users satisfied with your app. In short, metrics helps you to optimize your app performance (See the article for 15 Mobile App KPIs To Measure The Performance). Of all the metrics, LTV is the one that serves you the most because it includes data on the most important element of your app, that is; the users.
What LTV accounts for?
LTV stands for Lifetime Value of a user, that means the monetary worth of that user to you during the time the user stays in your mobile app, in other words; it is the lifetime of the user in your app. LTV has three variables, these are; monetization, retention and virality. During their time in your app the users, either by subscriptions or in-app purchases or sometimes through ads, contribute to your revenues. This is monetization. Speaking of monetization, it would be beneficial to mention a term called ARPDAU which is an acronym for Average Revenue Per Daily User. This metric shows you how well your monetization is going. It gives you direct feedback on how you affect your users by the innovations and changes you make in your app. It is an important metric calculated by dividing your daily revenue by the number of active users in that day. ARPDAU helps you to realize if the daily changes you make in your app makes your users happy. It gives you accurate feedback in short term. That way, you can look for ways to keep your users happier by placing the right kind of ads at the right place at the right time or by increasing the variety of in-apps purchases. By keeping ARPDAU high, you will also notice an increasing in your app’s LTV levels in the long term. Both in the process of subscription and in free version, the users interact with your app. Although sometimes they only log in once and never show up a second time. This interaction period of a user with your app defines the retention. People tent to make suggestions to each other based on the things they are happy with. Referrals are more powerful now through social media and why not become a subject of this word of mouth marketing? This referral value of a user in your app is called virality. You can actually keep it high by making campaigns or giving rewards such as discount coupons or giving in-app freebies to those who bring another one in the app. Viral growth is naturally desired mostly by startups as they need to be recognized in a faster way to start making money. These three elements, when calculated all together, define the total worth of a user in your app or the money you have to spend to acquire a user in other words; the Lifetime Value of a user in your app in the given time. So how to calculate this value?
LTV’s calculation generally depends on approximations. You can only make exact calculations if you are sure about your gross margin, the number of the existing and quitting users and the money you acquire from each of them. This, by all means, seems hard to be sure of and there are not many tools that provide you with an exact data on them. Calculations based on predictions still help and gives you a basic idea of the customer value during a certain period of time. First of all, you calculate your gross margin rate (total sales revenue minus cost of goods sold, divided by total sales revenue, it is expressed as percentage) which should also include any support service you give, installation and servicing costs of your mobile app. Then you define yourself a period of time for this calculation, let’s say; a month. Then you calculate the ARPU rate which means Average Rate Per User and is calculated by dividing total revenue by number of users that uses your app at the time (that represents monetization). And you also have a churn rate (that represents retention) which is the rate of the quitting users per month. Then you can also add your referral rate (that represents virality), inclusion of this rate is optional as there is not an easy way to predict such a referral and there is no guarantee of it. That is why we will not include it in our calculation. Actually, there are many formulas to calculate LTV rate, one of the most useful ones is as follows;
$ LTV = Gross Margin (%) * (1 / Churn Rate %) * ARPU (Total Revenue/Number of Users) * Referral Rate
So, let’s make a calculation based on the formula above. Let’s say your gross margin is 80 % and your churn rate is 5 % and an ARPU of $20 per month for your app including subscriptions and in-app purchases. So, your LTV would be;
$ 320 per month = 80 % * (1/ 5 %) * $20
You can keep your LTV high by using deep thinking, offering a great on-boarding, creating word of mouth, improving app-sharing, using push notifications wisely. Detailed review to increase your app’s revenue on maximizing LTV of your users is here.
What does CAC mean?
Now that you have calculated your LTV, it is time to meet another vital metrics that will also help you to make a successful startup or boost your pre- existing mobile app. Customer Acquisition Cost (CAC) is the rate of the cost of acquiring a new customer in other words; it is the cost of convincing a user to download and start using your app and of course to spend money on it. In order to make a profit out of your app, you are supposed to keep this cost as low as you can. This metric can simply be calculated by dividing all your app expense (including sales, hosting, support cost, supplies, personnel if there is any, etc.) by the number of your customers you acquired during the time you made this expense. The aim should be to keep your expense as low as possible while increasing the number of users thus your revenue. Let’s make an example. For example, in the past month you spent $ 2000 for your app and 50 new users come in return for your efforts. So, the formula would be like this;
CAC = App Expenses in Given Time / Amount of the New User During this Time
40 = 2000 / 50
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LTV: CAC Ratio
There is a very useful ratio between LTV and CAC values that makes developers and companies realize the growth scale of the company. It shows if the value of a user worth more than the money spent to acquire this user. LTV: CAC ratio formula shows you how profitably you acquire new customers and how healthily your company or your mobile app is growing or is it actually growing or steadily losing its revenues? Now you have an LTV and a CAC ratio for your app and we can make the calculation and comment on the result.
$ 320: $ 40 = 8.0
That means your new user acquisition rate was well worth the money you spent for your app last month. But a relatively low CAC rate also means you are supposed to invest more on marketing which guarantees a faster growth. Successful and long-lasting web-businesses has their own systematical way of calculating their LTV: CAC ratio. The worth of a user depends heavily on your promoting ability. When an app’s CAC is higher than its LTV, the failure is inevitable. That is why this ratio is crucial to developers both in the early and in later stages of their app. The difference is the calculations done in the early stages may not reflect the true CAC numbers as you may have high expenses with little number of users and your CAC would normally be lower than your LTV. What you can do to prevent this is that you can only include some portion of your expense rather than including the whole. By this way, you can balance your LTV:CAC ratio. As time goes by and after you have come a long way with your app, you can include all your expenses now that you have a balanced number of users and you would also be more certain about the existing and quitting ones. The LTV:CAC ratio gives a better insight and a clearer view of your future business. It helps you to make important decisions like investing more on ads or cutting down on app development costs. So, when to start worrying about your LTV:CAC ratio? It is often said that the benchmark 3: 1 LTV CAC ratio is enough for a sustainable business model. The thing is, it is efficient but never enough for a fast grow. The ratio higher than 3 signifies a healthier business with balanced revenues and expenses.
In parallel with the developing technology, the expectations grow. The investors and developers are supposed to use some metrics to foresee the upcoming condition of their services. In order to survive in this fast-growing market, they are supposed to keep a balanced business and for this, they should constantly calculate their LTV: CAC ratio. The parameters mentioned above are various and the companies should also be aware of which costs they should include or exclude and they should make down to earth predictions on their businesses or apps to come up with realistic ratios if they really would like to get benefit from the calculations. You should always keep that in mind; all the calculations are only for one thing only, to keep your users’ content and engaged with your business or your mobile app. Remember if they are not happy, they leave and your LTV value is obliged to drop down. That is why LTV : CAC is crucial for your app for you to see what you are supposed to do to increase the lifetime of your users and if you want to keep the ratio at 3+, take care of them, try to get to know them, contact with them or inform them about the services they are receiving from you without ever thinking what you are doing is enough. Innovation is the key factor, boost your marketing or ad reserves, introduce new in-app solutions and invest more on organic channels. Isn’t acquiring new users while keeping the existing ones is all what is all about after all?