The #1 Concern for an Internet Startup Should be Customer Acquisition Cost

August 18th, 2008 seph250 Posted in Internet, Startups |

I’ve been talking with several people working on internet businesses recently, and it’s always the same story:  If we build a website that does (insert whatever perceived problem they are solving), then we can make (X dollars) every time a customer uses our wonderful service.

What they fail to think through is  the cost of getting those potential customers to their website.  (To give credit, I was first introduced to this way of thinking about internet businesses by Nick Beim while I was studying at MIT)   Customers don’t just show up by themselves, and even if you’re really popular, telling your friends won’t bring you the thousands of customers you probably need.

Customer Acquisition Cost is the amount of money you have to spend to get someone to take the action on your website that gets you paid.   You can acquire customers through many different marketing strategies, some may be better suited to your particular niche.  Some people will pass out flyers around their school, or send emails to their colleagues.  Others may try to engineer their website to be “viral“, or to stimulate “word of mouth marketing“.

I like all these strategies, but I would hesitate to base a complete business plan on any of them.  They are not always predictable, nor are they necessarily scalable to a large audience.  Don’t ignore them, but consider them as a bonus: if you get them right they will only add to your success.

Perhaps unsurprisingly, I think pay-per-click advertising is where the most analysis should be placed. Pay-per-click advertising is both predictable (you can calculate how much it will cost to get a potential customer to your site), and it is scalable (you can choose to bring 10, 100, or even 1000 potential customers to your site per day).  Great places to setup ppc advertising are Google Adwords and Yahoo Search Marketing.

Knowing how much it costs to get a potential customer to your website is the first step.  The next step is to estimate what percentage of those potential customers you can turn into actual customers - also known as the conversion rate.  This number is hard to predict, but here are some things to think about:

1. How many competitors do you have?  - If you are the only one offering your product, you could expect a higher conversion rate (this never happens though).
2. How much better is your offering versus your competitors?  - It’s likely that the potential customer will browse through your site as well as a few of your competitor’s sites.  If your product is cheaper or more featured this could boost your conversion rate.
3. How easy is it for someone to understand your website quickly? -Your potential customers generally have short attention spans.  If you have a great offering but the site is confusing, your potential customers may never appreciate what you have to offer.
4. How closely aligned is your product with what the customer was searching for?  If you are building a social network for plumbers, and you buy the keyword “social network”, it’s likely that a lot of the people that come to your site are looking for something else, thus your conversion rate could be very low.
5. Analysis on your competitors is also a good idea.
6. Try to run some low cost experiments to test your theory.

Once you’ve convinced yourself that you have a good idea what your conversion rate will be, the rest is easy: Simply divide your cost of getting a potential customer to your website by the conversion rate, and you have your estimated customer acquisition cost.

From here it is simple- if you make more money per customer than it costs to get that customer (and there are lots of potential customers) you are in business! Best of luck!