In my last post, I argued for the importance of tying digital ads results to your overall business goals — specifically, tying Return on Ad Spend to Profit.
Though important, the post focused heavily on eCommerce businesses, their profit margins, and the immediate profit generated from the sale of their products.
This post is for businesses concerned with generating leads. I‘m going to share how to calculate the true cost of acquiring a customer with ads.
Though I’ll mainly be talking about companies who close leads over the phone, you can apply the same logic and formulas to any online lead gen business.
When generating leads, there is more to your paid ads program than your CPA.
First, let’s define CPA
CPA: This is your “cost per acquisition.”
Generally, this is tied to a conversion that involves the exchange of information for something of value in return. This is a tricky metric to pin down because your “acquisition” can be almost anything. It is defined by the advertiser.
One example of an acquisition is when a prospect reaches out for a sales team consultation call. Someone fills out a form on a website to inquire, then they receive an email to get on the phone with a sales rep from the company.
In this case, CPA would be the number of ad dollars you spend, on average, to get someone to fill out that form. A form fill is our “acquisition” here, but it can be tied to a number of different user actions.
If you spend $5,000 and 500 people fill out the form, your CPA would be $10.
($5,000 / 500 = $10)
Digital Ad Spend / # of Form Fills = CPA
Meaning you spend, on average, $10 on digital ads to get one form fill.
This is useful because if you have consistent historical data, you can use your CPA to determine how much money you’d need to spend to reach an acquisition goal.
So, similar to ROAS, CPA can and does provide you with useful information to help your digital ads efforts. But we can go further.
What happens after the form fill?
As you’ve probably guessed, CPA is missing a serious piece of the pie when it comes to the functions of a business. The closed deal!
CPA in this example is not telling you how many customers you’ve acquired for your business (again, we’re talking about lead gen businesses here, in eComm, an “acquisition” is almost always a purchase).
In this case, CPA is only giving you information on how many people have decided to reach out to inquire.
Not everyone who inquires becomes a customer. And if you’re only reporting on CPA with your ads, you are missing out on providing your client with key information.
This brings us to the next definition that’s useful to us: the sales team close rate.
Sales team close rate is the percentage of leads who actually sign up/become customers.
If you have 100 people fill out the form on your website to speak to the sales team, the sales team has 100 phone calls, and they close 25 deals, then you can calculate your sales team close rate.
(Closed Deals/ Total Calls)*100 = Sales Team Close Rate Percentage
Using the above example
(25/ 100) * 100 = 25%
Therefore, the sales team close rate for this business is 25%.
If you’re a lead gen business, this should be one of the key metrics your organization tracks. The percentage of your prospect calls that result in customers/signups. If you’re an advertiser, this should be one of the first stats you ask your client for.
*Note that you don’t necessarily have to be closing deals over the phone to have a metric similar to the sales team close rate. You could have a lead -> customer conversion rate that tells you the same thing.
Not every lead becomes a customer. What are the implications of this as an advertiser?
Advertisers are hired to drive business to the company they’re working for. You certainly want to be able to tie a stat like your CPA to how much business you’re actually driving for the company, right?
As I said in my last article:
“No singular metric carries significance in isolation. Stats always exist in relation to other stats.”
In this case, your CPA is closely tied to your Sales Team Close Rate. You need to combine these two pieces of information to get the actual cost of acquiring a customer with digital ads.
Let’s draw out an example.
ACME Payroll Subscriptions is selling monthly payroll services for small businesses.
They generate leads via Google Search Ads. People click on search ads, come to the website, and fill out a Book a Call form on the website. Once they fill out the form, they proceed to have a 30-minute chat with a salesperson to see if it’s a good fit and sign up.
John, the advertiser in charge of the Google Ads account, sees that his CPA for the quarter is $60. Meaning that for every $60 he spends on Google Ads, he sees approximately one form fill.
John has spent $30,000 this month and has generated 500 leads for his sales team.
Because John wants to go beyond simply reporting on his ads CPA, he decides to calculate how many closed deals/customers his ads have generated. He wants to calculate the true cost of acquiring a customer.
John knows his CPA is $60. He talked to the Sales Team Lead and knows that his sales team close rate is 10%.
This means that for every 10 form fills John drives with Google ads at $60 each, one becomes a customer.
Let’s do some simple math. 10 form fills at $60 each = $600. Out of those 10 form fills, the business has acquired one customer.
Therefore, the true cost of acquiring a customer with ads is $600.
John’s CPA is $60, but his true customer acquisition cost is $600. This is the number he should be reporting on to his client!
The calculation to use is:
CPA / Sales Team Conv Rate (decimal form) = True Cost to Acquire a Customer
$60 / 0.1 = $600
Why is this vitally important?
Well first, the difference between $60 and $600 is huge, especially if the business owner doesn’t fully grasp what the advertiser means by “CPA.”
Beyond that, this is how you can provide value to your clients as an advertiser — by providing them with as much information that’s relevant to their business operation as possible.
We can take this calculation one step further as well. We need the lifetime value of a customer from the business as well.
If the lifetime value of a customer is $1,200, then we can actually create a ROAS calculation based on the above. Simply take your customer LTV / the true cost to acquire the customer.
If you spend $120,000 on Ads, with a $90 CPA, 20% Sales Team Close Rate, and a $900 LTV of a customer, would your ads be driving profit for the business? If so, how much?
- Calculate the true cost of acquiring a customer. $90 / 0.2 = $450
- Calculate the number of customers you’ve acquired. $120,000 / $450 = 266 customers.
- Calculate the lifetime value of those 266 customers. 266 * $900 = $239,400
- Calculate if your ads are driving a positive ROAS. $239,400 / $120,000 = 1.99x ROAS. Meaning for ~every dollar you spend on ads, you generate $1.99 in revenue for the business.
This is a much better way for you to report your ads stats to the client, by calculating how much revenue you’re generating for the business.
*There is, of course, more to do here as you’d have to bake in your fee as an advertiser + the additional costs for the business to onboard & service their client.
There’s more to do, but this should equip you to understand your ads results far beyond CPA in isolation. Take this information and try to apply it to your ad results.
See what happens.