The LTV to CAC ratio is the key indicator of subscription business viability
The LTV to CAC ratio is the key indicator of subscription business viability
The ratio of Lifetime Value of a Client to Customer Acquisition Cost is arguably the single most important metric for determining the health, viability, and scalability of a subscription business. It measures the relationship between the total value of a customer and the cost of acquiring that customer.
This ratio tells you how many times over a customer pays back their cost of acquisition.
The Viability Threshold: 3:1
Venture capitalist and SaaS expert David Skok suggests that a viable subscription business should have an LTV:CAC ratio of at least 3:1.
- Less than 3:1: The business model is likely unsustainable. You are spending too much to acquire customers relative to their lifetime value. This was the case for HubSpot in early 2011 when their ratio was 1.67:1, signaling they were in trouble.
- 3:1 or greater: The business model is viable and has the potential to be profitable and scalable. This is the threshold where it makes sense to "step on the gas" and invest more heavily in sales and marketing to fuel growth.
- Higher Ratios (e.g., 5:1 to 8:1): Indicate a very strong and efficient business model. Mosquito Squad's 13:1 ratio shows an extremely profitable customer acquisition engine.
This ratio is the ultimate measuring stick because it synthesizes all the other key metrics: Monthly Recurring Revenue, Churn, gross margin, and sales and marketing efficiency. If you can get this ratio right, you have a winning business. If you can't, you need to go back and fix one of the underlying components.