Knowing how to calculate the Cost of Acquisition (COA) of a new customer is a critical skill needed to improve the efficiency of your marketing.
Calculating COA requires that you know a variety of intermediate pieces of information to get to the COA number.
COA is applicable in all areas of marketing and advertising and is ultimately the determinate of whether or not your marketing is effective. If you COA is not low enough to allow you to earn a profit AND generate a strong positive cash flow you must abandon your marketing strategy and find one which works.
A good example of the COA calculation process can be demonstrated with Google Adwords. Google Adwords has three main considerations.
- Wasted Clicks: How many people must you have Click on a Paid Ad to find one legitimate Potential Customer?
- Engagement Conversion: How many Potential Customers must you generate to get one legitimate LEAD?
- Purchase Conversion: How many LEADS must you generate to get one Actual Customer?
Wasted Clicks
One of the problems with Google Adwords is that a lot of people that click on your paid advertisement may not be legitimate potential customers. A lot of people will be searching for something that has no direct relationship with your actual product or service. These are wasted clicks. Another group of people will be competitors wanting to keep track of what you are doing and may also enjoy knowing that they are costing you click fees in the process. These are also wasted clicks.
You will not know for certain until you start your own click program but as many as 9 out of 10 clicks may be from non-legitimate sources. It may be that only 1 out of 10 clicks is a legitimate potential customer.
Engagement Conversion
Once you get a legitimate potential customer to visit your website you must get them to take an action that results in some sort of engagement with your company. Now the ideal action is to purchase something, but any action that results in your being able to reach out and start a conversation with the potential customer is the main goal at this point.
You may have an Engagement Conversion rate of any where between 5% to 50% depending on the power of your engagement incentive and the power of your messaging.
Purchase Conversion
Once you have engaged a Potential Customer in a conversation some percentage of those Engaged Potential Customer will convert to Actual Customers. This percentage should range between 25% and 90%.
Here is the math:
- To get 1 Actual Customer with a 50% Purchase Conversion Rate = 2 Engaged Customers
- To get 2 Engaged Customers with a 25% Engagement Conversion Rate = 8 Potential Customers
- To get 8 Potential Customers with a 20% Potential Customer Rate on Clicks = 40 Clicks
- If your Cost per Click = $5.00 then your Cost of Acquisition = $200
Naturally, the more that you can improve your conversion rates and the quality of your original clicks the lower your COA. Every form of advertising has a similar set of metrics that you have to consider. With Pay-per-Click advertising the process of calculating COA is relatively simple. As will all marketing the starting point is to know your customer intimately.
The better that you know your customer the lower your COA will be because you will reach a more target rich environment, you will have a message that is tuned to their ears, a message that they will respond to, and you will show them how you solve a real problem that they are experiencing.
With Magazine or Newspaper or Radio Station advertising you go through a similar process.
You must figure out how many people will see or hear your advertisement. Then determine how many of those will respond to your call to action. Then estimate how many of those respondents will be converted into actual customers. Then you must compare your COA with the LTV and determine if you are generating a net profit and if your cash flow will sustain continued investment in marketing.
Here is a short list of the kinds of questions you should be asking:
- What media reaches your audience?
- What pain are they feeling?
- What message will they pay attention to?
- What action do you want them to take?
- Is it easy for them to take the action you want?
- When they take the action you request what do you do next?
- Are you ready to take on a customer? Is your staff trained?
All of the above questions can be adjusted for any media you select. It all starts with knowing your audience.
Do you have a formal Target Customer Profile?
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