· 7 min read · Jason Youngjin Koh
What you can pay for a customer
Most owners judge advertising against the price of a single sale. That is the wrong comparison in almost every business. Here is the calculation that gives you a real ceiling, and the two ways it gets ignored.
Your ceiling is a share of the gross profit one customer produces across their whole life with you. Work out the average sale, how many times a customer buys before they stop, and the gross margin on that. Multiply the three. Then decide what portion of the result you are willing to hand over to win one. That number is the only thing that tells you whether an ad account is working.
Most owners have never done it. They judge advertising against the price of a single transaction, or against nothing at all, and go on feel. Fifteen minutes with figures already sitting in Xero or your point of sale settles the argument permanently.
The four numbers you need
- Average order or job value, ex GST.
- How many times a typical customer buys before they stop.
- Gross margin, which is what survives the direct cost of delivering the sale.
- The share of lifetime gross profit you are willing to spend to acquire one customer.
Average sale, ex GST
Take twelve months of sales and divide by the number of orders or jobs. Work in ex GST figures throughout. The GST you collect is not yours, and leaving it in inflates every number that follows by roughly a tenth. If your average job invoices at $715 including GST, the number you want is $650.
Do not use your best month or your favourite client. Use the average, because advertising will bring you the average.
How many times they buy before they stop
This is the number owners guess worst, almost always downward. Pull a list of customers who first bought from you two or three years ago and count the orders each of them has placed since. The mean of that list is your repeat rate.
A suburban cafe might see a regular a hundred times over two years. A conveyancer might see the same client twice in a decade. A commercial electrician might do three jobs for one strata committee across five years. Those are not small differences in the final answer. They are most of the answer.
If the business is young and you have no history, estimate low and revisit in six months. A guess you know is a guess beats a confident number you invented.
Gross margin, because margin is all you can spend
Revenue is the number owners quote and the number that misleads them. You cannot spend revenue on advertising. You can only spend what is left after paying for the thing you sold.
Gross margin is revenue minus the direct cost of delivery. For a cafe that is food and coffee cost. For a trades business it is materials plus the labour hours on the job. For a coaching or professional services business it is mostly your own time, which is why those margins read high on paper and why those owners often underspend.
Multiply, and you have lifetime gross profit
Average sale, times purchases before they stop, times gross margin. That is the total gross profit one customer hands you across the relationship. It is the pool your acquisition cost comes out of, along with your overheads and whatever you intend to keep.
Now choose your share
There is no correct percentage, only one you can defend. Twenty to thirty per cent of lifetime gross profit is a workable range for a business that wants to grow steadily and keep the rest. Push toward fifty if you are deliberately buying market share and have the cash to fund it. Sit near ten if cash is tight and you would rather grow slowly.
Whatever you pick, write it down. The point of a ceiling is that it decides for you in advance, before a good month tempts you upward and a quiet fortnight panics you downward.
| Business | Average sale (ex GST) | Purchases before they stop | Gross margin | Lifetime gross profit | Ceiling at 30% |
|---|---|---|---|---|---|
| Suburban cafe | $18 | 100 over two years | 65% | $1,170 | $351 |
| Residential electrician | $650 | 3 over five years | 45% | $878 | $263 |
| Business coach | $1,200 per month | 6 months | 80% | $5,760 | $1,728 |
Same method, three answers that look nothing like each other. The coach can pay more than six times what the electrician can and still sit inside the ceiling. The cafe, which most owners would say cannot afford to advertise at all, can pay more per customer than the electrician, provided the customer really does come back a hundred times.
$1,170
Gross profit from one regular cafe customer in the example above. Most cafe owners price that customer at $18.
The first failure: refusing to spend $80 on a customer worth $2,000
This is the more common of the two and it wears the costume of discipline. The owner watches $80 leave the ad account to produce one enquiry, compares it to a $150 first job, decides the maths does not work, and switches the campaign off.
The comparison is wrong. If that customer carries $2,000 of gross profit over five years, paying $80 to acquire them returns twenty five to one, and the owner has just cancelled the best purchase available to the business because the first transaction looked thin.
The tell is a sentence like this one: we tried Google and it cost us $60 a lead. The correct reply is a question. What is a lead worth?
The second failure: spending $400 to win a customer worth $300
Rarer, more dangerous, and it feels like success the entire time it is happening. Revenue climbs every month. The ad account looks busy. The owner hires. The bank balance moves the other way and nobody in the business can explain why.
Growth on a negative unit economic is a faster way to run out of money. Every new customer takes cash out, and scale multiplies the hole. When acquisition cost sits above lifetime gross profit, the fix is never more budget. It is a higher average sale, a better margin, more repeat business, or a cheaper channel.
Payback period, which the ratio hides
A ceiling can be correct and still bankrupt you. The ratio tells you whether a customer is profitable. Payback tells you when, and when is what your bank account cares about.
Take the coaching example. Paying $1,728 for a client who returns $960 of gross profit a month puts you square in under two months. That is fundable out of cash flow. Now take the cafe. Paying $351 for a customer who returns roughly $50 of gross profit a month means about seven months before the acquisition cost comes home, and a full two years before you have collected all $1,170 of it. The ratio is identical in both cases. The cash requirement is not remotely.
Turning the ceiling into something the ad account can chase
An ad platform cannot optimise toward a customer it never hears about. It can optimise toward an enquiry. So convert. If one enquiry in four becomes a customer and your ceiling is $260 per customer, you can pay up to $65 per enquiry. Set the target there and stop arguing with the platform about everything else.
That conversion rate has to be measured rather than assumed, which means somebody in the business records what happened to every enquiry. Without it, you have a ceiling you cannot apply.
The conversion rate between enquiry and customer is not fixed. It moves most with how fast you answer the phone
What to do this week
- Pull twelve months of sales ex GST and divide by the number of orders or jobs.
- Count orders per customer for a cohort that first bought two or three years ago.
- Work out gross margin honestly, with variable labour inside the cost.
- Multiply the three, choose a share you can defend, and write the ceiling somewhere the person running the ads can see it.
- Divide by your enquiry to customer conversion rate to get a cost per enquiry, then hold the ad account to that and nothing else.
Once the ceiling is written down, most arguments about advertising stop being arguments. A channel is either under it or over it. Everything else is a conversation about how to get more customers under the number you already agreed on.