Unit Economics in SaaS

Key SaaS Metrics for Unit Economics

• Customer Acquisition Cost (CAC): How much it costs to acquire a new customer.
• Customer Lifetime Value (LTV): How much revenue a customer generates over their entire relationship with your business.
• Average Revenue Per User (ARPU): The average monthly revenue per user.
• Churn Rate: The rate at which customers cancel their subscriptions.

Why Unit Economics Matter in SaaS

Understanding SaaS unit economics is crucial because:

• It ensures long-term viability: Are you building a sustainable business model?
• It guides pricing and features: Align prices and offerings with profitability.
• It informs targeting: Focus on profitable customer segments.
• It attracts investors: Healthy unit economics signal a scalable business.

Unit Economics Example

Imagine you’re running a project management SaaS:

• Monthly subscription price (ARPU): $50
• Average customer lifespan: 24 months
• Cost to acquire a customer (CAC): $500
• Monthly cost to serve a customer: $10

Your unit economics would look like this:

• LTV: $50 x 24 = $1,200
• Total cost per customer: $500 + ($10 x 24) = $740
• Profit per customer: $1,200 – $740 = $460

Key Ratios in SaaS Unit Economics

SaaS businesses often focus on these ratios:

• LTV/CAC Ratio: Should ideally be 3:1 or higher. In our example: $1,200 : $500 = 2.4:1 (needs improvement).
• CAC Payback Period: How long it takes to recoup CAC. In our example: $500 / ($50 – $10) = 12.5 months.

Applications of SaaS Unit Economics

Here’s how SaaS companies use unit economics:

• Pricing decisions: Ensuring subscription prices lead to profitable unit economics.
• Feature development: Prioritizing features that increase ARPU or reduce churn.
• Marketing strategies: Balancing CAC with expected LTV for different channels.
• Customer success: Investing in reducing churn to improve LTV.

Common Pitfalls in SaaS Unit Economics

Beware of these mistakes:

• Underestimating CAC: Remember to include all acquisition costs, like sales salaries.
• Overestimating LTV: Ignoring churn can inflate lifetime value.
• Neglecting expansion revenue: Upsells and cross-sells can significantly boost LTV.
• Ignoring time value of money: Discount future revenue to account for its present value.