An Introduction To CLV And CAC On Amazon
Selling on Amazon is much more competitive now than it ever has been before. In 2020, there were more than 1.3 million new Sellers on Amazon: that’s 3,500 new Sellers being added every day.1 Big brands are increasing their advertising budgets on Amazon. As a result, they are competing for ad space and raising prices. Aggregator firms are acquiring Amazon Sellers, and they too have large ad budgets.
According to Marketplace Pulse, advertising cost on Amazon is up 30% from the start of the year and over 50% year-over-year.2 To succeed, you need to find a way to compete on different terms. One way is by leveraging the power of CLV and CAC.
Introducing CLV and CAC
Knowledge of Customer Lifetime Value (CLV) and Customer Acquisition Cost (CAC) is vital if you want to succeed with your Amazon advertising. Balancing the two will ensure that your paid search campaigns are both profitable and optimized. Let's start with some definitions:
- Customer Lifetime Value: Can be defined as the total profit per customer to a business over the whole period of their relationship — it is a metric that is highly desired by brands but is often found to be challenging to quantify accurately.
- Customer Acquisition Cost: CAC is a business-level metric. It is the total amount it costs to acquire an average customer, including any Amazon or agency fees.
- The CLV to CAC Ratio: CLV:CAC calculates the relationship between the cost of acquiring a customer and their lifetime value. This can be represented in a basic graphic.
With regard to how you should treat the relationship between the two, consider:
- If you can keep your CLV higher than CAC — you should be doing well.
- If you spend more on acquiring a customer than the value you get from them — that is not a good situation.
There is no one "right" ratio. However, a common benchmark is in the region of 3:1 — that is, the value generated by a customer should be three times more than the cost of acquiring them.3
- If the ratio is close to 1:1 — you are spending too much.
- If it is something like 5:1 — you could be missing out on more revenue.
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Why focus on repeat customers?
The CLV:CAC ratio gives you another way to look at your advertising. If your promotions and marketing tactics have only focused on gaining new customers, it’s time to consider CLV and put a little more focus on your existing customers. With Amazon still set up to generate one-off sales, taking a longer view and encouraging repeat purchases will give you a competitive edge. And there are real benefits to nurturing your customers. Repeat customers are likely to:
- Spend more money — repeat buyers tend to have higher AOV.
- Prove a valuable source of product reviews.
- Be receptive to new marketing strategies and offers.
Also, if you are fundraising or selling your Amazon business, strong CLV metrics will result in higher valuations.
What does CLV allow me to do?
There are many benefits associated with leveraging CLV. For example, you can:
- Invest more in your branding ads.
- Compete for the top spot in ads and increase organic ranking to drive more organic sales.
- Forecast cash flow to finance for — inventory purchases, product launches, big holiday ad spending.
- Do a market land grab and become the strongest brand.
- Acquire customers quickly, possibly at a loss, safe in the knowledge that you'll become profitable at a defined period that fits with your risk profile and CLV-adjusted break-even ACoS.
Why Amazon isn't built for CLV
Amazon, on its own, is not designed to leverage the power of CLV. There are four KPIs that determine your CLV:
- Average Order Value (AOV)
- Purchase Frequency (F)
- Gross Margin (GM)
- Churn Rate (CR)
These are hard to find and even interpret on Amazon and this is mainly due to:
- Lack of metrics: Repeat order rate is too vague (doesn't account for cross purchases) and doesn't account for purchase cycle. Amazon's New-to-Brand reports are at best vague and sometimes misleading.
- Control of access to customers: You can't use traditional retention strategies as Amazon "owns" the customer and protects its relationship.
- The limits of focus on ACOS: ACoS on Amazon is all about first purchase profitability. No allowance on Amazon is made for ad spend contributing to future profits.
Below is an example of how your true ACoS can be masked by concentrating on the first sale.
The potential barriers to using CLV on Amazon
CLV isn't a magic bullet. It would be best to have good analytics tools and a robust analytics focus to squeeze out real value from CLV and CAC. While accurately calculating CLV is itself a difficult task, you will still require expertise to actually use the information effectively once it’s been calculated. To benefit, you will need:
- The right type of product and a solid brand to ensure repeat purchases.
- A reasonable CLV timeline — say three months. Remember, your business could die before realizing your CLV, so pick the products to match the timeline and vice versa.
- CLV growth tools — which are not found on Amazon.
- Less focus on the CAC side of the equation — because Amazon does provide tools to measure this, it can tend to get more attention.
Note: Amazon has some exciting customer engagement tools in Beta that will address some of these drawbacks, such as SnS (simple notification service), live streams for launches, and Amazon Posts — all of which we can help you use more effectively through sophisticated insight generation and expert application of information. You are welcome to get in touch to find out more.
Partner with a third-party platform
Many companies realize the importance of CLV and CAC. To get the best answers as quickly as possible, they are working with third-party partner companies, who are both Amazon and tech-savvy and provide solutions that are ready to go. With speed to results being so important, finding and accessing the right data on Amazon is a significant challenge. Robust CLV calculations depend on:
- Knowing where to capture customer and product data.
- Being able to attribute profit to a customer over their entire lifetime.
- Having sufficient data to forecast lifetime value based on past behavior to date.
- Generating models of behavior that match the data well.
A third-party insights platform is crucial to making CLV and CAC work. By quickly aggregating disparate data sources within the Amazon ecosystem, a third-party platform can help generate and identify:
- CLV: On a per customer basis, adding up the total profits per unit sales.
- CAC: New-to-brand customers emphasizing blended ads and organic sales (due to the role ads have on organic rankings and sales).
At Nozzle, our knowledge of the Amazon ecosystem, AI skillset, and ability to make sense of client's retail data are game-changing. For example, using our industry expertise and specialist platform (designed specifically for the Amazon platform) this is how we calculate CLV:
- Work out revenue on a per-customer basis on any timeframe — for example, month-by-month or quarter-by-quarter.
- Subtract sales tax, Amazon fees, and cost of goods sold, along with advertising spend.
- Analyze data using a cohort analysis based on when customers first purchased.
Note: Cohort analysis involves looking at the groups of people over time and observing how their behavior changes. It involves breaking apart data sets into related groups for analysis.
Given Nozzle's background in programmatic advertising and unique ability to apply AI, we are in a solid position to execute our roadmap and help brands shift budgets away from Google and Facebook to Amazon.
Whether you need a fully managed service or have the in-house team to work with Nozzle's self-serve platform, we have a dedicated customer team that will onboard, train, offer ongoing tailored strategic advice, and provide future-test through our beta program. CLV and CAC are just some of the levers at your disposal when you apply data analytics to Amazon data. Why not get in touch to discover more.