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M05
Customer Economics
Some customers cost more to win and serve than they will ever pay. Most businesses cannot say which.
The previous module looked at the economics of a product. This one looks at the economics of a customer relationship, which unfolds over time: a cost to win the customer, a stream of contribution while they stay, and a cost to serve them throughout. Businesses count customers and revenue carefully, and this larger arithmetic rarely.
You will
- Calculate cost to acquire a customer (CAC) by channel
- Estimate cost to serve, including credit, support and special handling
- Estimate customer lifetime value from margin, frequency and retention
- Compare lifetime value to acquisition cost by segment
By the end you will have
- Cost to acquire, cost to serve, retention and lifetime value for each customer type
- Contribution per transaction and share of capacity by customer type
- A view of which types to invest in, protect, renegotiate, cap or exit
- Proposed terms for your weakest contract or scheme
Time to apply: half a day to gather data, and two hours to complete
The case · Private outpatient clinic, 25 staff
The clinic that is always full and never comfortable
Harbourview Medical Centre is an outpatient clinic in Accra with four doctors, a pharmacy and a laboratory. Its waiting room is full every day. Last year it handled 22,200 consultations, close to the 25,000 its doctors can see, and yet profit was only GHS 270,000 on revenue of about GHS 5.5 million.
Its patients come through four routes: people who pay themselves, members of a private insurer, members of the national health insurance scheme, and the employees of a manufacturing company that pays the clinic a fixed monthly fee per employee. Dr Mensah, the founder, has always accepted every scheme. 'Volume keeps the doctors busy,' she says, 'and every patient is a patient.'
Now the manufacturing company wants to renew its contract for another three years at the same monthly fee, and the clinic's administrator has noticed that self-pay patients are being told to come back next week because the appointment book is full.
- Consultations last year
- 22,200 of 25,000 possible
- Profit
- GHS 270,000
- National scheme share of visits
- 45%
- Marketing spend
- GHS 60,000 (aimed at self-pay patients)
- Corporate contract
- GHS 25 per employee per month, 300 employees
- Slowest payer
- National scheme, about 120 days
Should Dr Mensah keep every scheme for volume, renegotiate the terms, or limit the least profitable patient groups?
Before you read on: form your own view
- 1.Which group of patients do you think is most valuable to the clinic, and why?
- 2.Is a full appointment book a sign of a healthy clinic?
- 3.What would you need to know about each patient group before renewing the corporate contract?
Write your answer down. We return to this case after the worked example.
Step 01 / 13
The business problem
Most businesses can say how many customers they have and how much revenue each produces. Few can say what it cost to win each type of customer, what it costs to serve them, or how long they typically stay. Without those figures, the true value of a customer relationship is unknown.
The gap matters most with large customers. Their size makes them feel valuable, and it also gives them the negotiating power to demand discounts, extended credit and special handling. Once those costs are counted, large customers can turn out to be among the least profitable the business has.
Harbourview knows how many patients it sees and roughly what each visit earns. It does not know what each patient group costs to win, costs to serve (claims, pre-authorisations, rejected claims, waiting to be paid), how often they come back, or how long they stay. Without those figures, the clinic cannot tell which patients are funding the business and which are consuming its scarcest resource, doctors' time, at little or no profit.
A customer relationship has economics that unfold over time: a cost to win the customer, a stream of contribution while they stay, and a cost of serving them throughout. Looking at one visit or one invoice misses most of it.
Why it matters
Customer economics determine where marketing and sales money should be spent, which customers deserve special terms, and how fast the business can afford to grow. A business that spends heavily to acquire customers who leave quickly, or who cost more to serve than they contribute, is buying revenue at a loss.
The analysis also informs pricing and service design. Different customer types can reasonably receive different terms, service levels and prices, provided the differences are grounded in the economics of each relationship.
What it costs when it is left alone
- Capacity fills with low-value customers while high-value customers are turned away or kept waiting.
- Marketing money is spent without knowing what a new customer is worth, so it is either wasted or too timid.
- Contracts are renewed on terms that lose money on every customer they bring.
- The administrative cost of serving some customer types (claims, approvals, collections) is absorbed silently in overheads.
- Slow payment by some customer groups ties up cash that the business finances with expensive debt.
Step 02 / 13
The decision
Which customer types deserve your capacity, your acquisition spending and your best terms, and which should be renegotiated or limited?
Every customer type has a defender. The scheme that pays least may bring the most volume; the contract that loses money may come from a company the founder respects; limiting any group feels like turning people away. The analysis replaces 'every customer is a customer' with a clear view of what each type contributes over its lifetime and per unit of the business's scarcest resource.
Invest to acquire
High lifetime value relative to acquisition cost. Spend more to win them.
Keep and protect
Valuable and stable. Retention matters more than acquisition.
Renegotiate
Valuable volume on poor terms. Change price, payment terms or service level.
Limit or exit
Low or negative value per unit of capacity. Cap the capacity they use, or leave.
Step 03 / 13
The concept
Customer economics looks at a customer relationship over its life. Three numbers matter: what it costs to acquire a customer (CAC), what the customer contributes each year after every cost of serving them, and how long they stay. Multiply annual contribution by expected lifetime and you have lifetime value (LTV).
Comparing LTV with CAC tells you whether acquiring that type of customer is a good investment. A common rule of thumb is that LTV should be at least three times CAC, and that CAC should be paid back within 12 months. But the ratio can mislead when CAC is near zero: a customer type that costs nothing to acquire can show a spectacular ratio while contributing almost nothing in absolute terms.
That is why capacity matters. When the business is close to full, the right comparison is contribution per unit of capacity (per consultation, per machine hour, per delivery slot). A customer type that earns little per slot occupies a slot that a more valuable customer could have used.
- CAC (cost to acquire)
- Acquisition spending on a customer type (marketing, sales time, onboarding) ÷ number of new customers of that type won.
- Cost to serve
- The extra cost of serving a customer type: claims and approvals, admin, support, special handling, collections.
- Annual contribution per customer
- (Revenue received − direct cost − cost to serve − cost of credit) per unit × units per customer per year.
- Retention rate
- Share of customers active this year who are still active next year.
- Expected lifetime
- 1 ÷ (1 − retention rate). At 75% retention a customer stays about four years.
- LTV (lifetime value)
- Annual contribution per customer × expected lifetime.
- Payback period
- CAC ÷ monthly contribution per customer: months to earn back the acquisition cost.
Step 04 / 13
The framework
Calculate four numbers for each customer type, then judge each type on lifetime value against acquisition cost, and on contribution per unit of capacity.
The KSL customer economics sheet
01
Cost to acquire
Spend ÷ new customers
02
Contribution per unit
After cost to serve and credit
03
× Units per year
= Annual contribution
04
× Expected lifetime
= LTV
05
Compare
LTV ÷ CAC, payback, contribution per capacity unit
Contribution per unit
Revenue actually received − direct cost − cost to serve − (revenue × days to pay ÷ 365 × cost of money)
Use revenue after rejected claims, bad debts and discounts.
Lifetime value
Contribution per unit × units per customer per year × 1 ÷ (1 − retention rate)
| Measure | Healthy | Warning |
|---|---|---|
| LTV ÷ CAC | 3 or more | Below 1: you lose money acquiring this type |
| CAC payback | Under 12 months | Over 24 months |
| Contribution per capacity unit | At or above your average | Negative, or a small fraction of your best type |
| Cost to serve as % of revenue | Under 10% | Over 20% |
Cheap but thin: cap capacity
Easy to win, earns little per slot. Limit the capacity it takes; push for better terms.
Invest to acquire
Valuable per slot and worth acquiring. Spend more on winning these customers.
Renegotiate or exit
Expensive to win and thin per slot. Change the terms or stop.
Acquire carefully
Valuable once won, but costly to win. Improve acquisition efficiency or retention.
← Low contribution per capacity unit
High contribution per capacity unit →
The rule that matters most
When capacity is full, a customer type that earns little per slot is not 'extra volume'. It displaces a more valuable customer.
Step 05 / 13
Diagnostic questions
Work through these for each of your main customer types. Where you do not know the answer, note what data you would need.
The questions this module must answer for your business
- 01What does it cost us to win a new customer in each channel?
- 02How long does a typical customer stay, and what do they contribute?
- 03Which customer types are profitable after cost to serve?
- 04Where are we paying too much to acquire or keep customers?
Acquisition
- What did you spend last year to win new customers, and on which channels?
- How many new customers of each type did that bring?
- Which customer types arrive at almost no cost (referrals, schemes, contracts), and which cost the most to win?
Serving and getting paid
- What extra work does each customer type create: approvals, claims, reports, special handling, chasing payment?
- How long does each type take to pay, and what share of what you bill do you actually collect?
- Which customer type generates most complaints or disputes?
Retention and capacity
- What share of last year's customers of each type came back this year?
- How full is your capacity, and which customer types use most of it?
- Which valuable customers are you turning away or keeping waiting? What does that cost?
- What would happen to profit if you limited the capacity given to your least valuable type?
Step 06 / 13
Worked example
The administrator pulled a year of billing, claims and appointment data. All amounts in GHS, per consultation unless stated. The clinic's overdraft costs 25% a year.
Harbourview Medical Centre: the economics of four patient groups
1.Calculate acquisition cost by group
Patient group Acquisition spend New patients CAC Self-pay 60,000 (ads, health days) 800 75 Private insurer members 20,000 (empanelment, liaison) 500 40 National scheme members Minimal about 1,000 5 Corporate contract employees 15,000 (sales effort, set-up) 300 50 2.Calculate contribution per consultation
Group Revenue received Direct cost Cost to serve Days to pay Cost of credit Contribution Self-pay 320 144 10 0 0 166 Private insurer (after 8% rejected claims) 350 165 40 45 11 134 National scheme (fixed tariff) 180 120 35 120 15 10 Corporate (GHS 25/employee/month ÷ visits) 75 110 5 30 2 −42 Cost to serve for insured patients is the claims team: pre-authorisations, claim forms, resubmissions and chasing. The corporate fee works out at GHS 75 per visit because employees visit four times a year on average.
3.Calculate lifetime value and payback
Group Visits/year Retention Lifetime Annual contribution LTV LTV ÷ CAC Self-pay 2.4 60% 2.5 years 398 996 13.3 Private insurer 3.0 70% 3.3 years 403 1,342 33.6 National scheme 4.0 85% 6.7 years 41 272 54.4 Corporate 4.0 90% 10 years −166 −1,662 negative The national scheme has the best LTV ÷ CAC ratio because it costs almost nothing to acquire. That ratio is misleading on its own: each scheme patient contributes GHS 41 a year, a tenth of a self-pay or insured patient.
4.Look at contribution per consultation slot
Group Consultations Share of slots used Contribution per slot Total contribution Self-pay 6,000 27% 166 996,000 Private insurer 5,000 23% 134 671,000 National scheme 10,000 45% 10 102,000 Corporate 1,200 5% −42 −50,000 Total 22,200 100% 77 1,719,000 Fixed costs of GHS 1.45 million leave a profit of about GHS 270,000. Almost half the doctors' time earns 6% of contribution. The corporate contract loses money on every visit, and the self-pay patients being turned away are worth GHS 166 per slot.
5.Model the options
Option Effect on annual contribution Renew corporate contract unchanged −50,000 a year, for three years Renegotiate corporate to GHS 160 per visit (fee-for-service) About +100,000 (from −50,000 to +50,000) Cap national-scheme bookings at 8,000 a year; fill 2,000 freed slots with self-pay patients (about 830 extra patients at CAC 75) +332,000 − 20,000 lost scheme contribution − 62,000 extra marketing = about +250,000
The lesson
Every patient is a patient, but not every patient group has the same economics. Counting acquisition cost, cost to serve, payment time and retention showed that the clinic's capacity was filled with its least valuable groups while its most valuable ones were turned away, and that the contract up for renewal lost money on every visit.
Back to the case: The clinic that is always full and never comfortable
Dr Mensah told the manufacturing company the clinic could not renew at GHS 25 per employee per month, and offered either GHS 45 per employee per month or GHS 160 per visit. The company chose fee-for-service.
She kept the national scheme, because it matters to the community and to the clinic's reputation, but reserved two of each doctor's daily sessions for it rather than letting it fill the whole book. The freed slots and a modest increase in marketing went to self-pay and insured patients.
Within six months, waiting times for self-pay patients fell from a week to two days and monthly contribution rose by about a fifth. If your first answer was that a full clinic is a healthy clinic, notice what changed it: contribution per slot, not visits per day.
Compare this with the view you wrote down at the start. What changed, and why?
Step 07 / 13
Apply it to your business
Now do the same for your business. Allow half a day to gather data, and two hours to complete.
Gather this first
- Revenue, direct cost and number of transactions (visits, orders, jobs) by customer type for the last 12 months
- Acquisition spending by customer type: marketing, sales time, onboarding, commissions
- Number of new customers of each type won in the year
- Cost to serve by type: admin, claims, approvals, support, special handling
- Payment days and collection rate by type
- Retention: share of last year's customers of each type who bought again this year
- 1
Define customer types
Group customers by how they arrive and how they pay: channels, schemes, contracts, segments. Three to six types is enough.
- 2
Calculate acquisition cost
Enter acquisition spend and new customers for each type. The sheet calculates CAC.
- 3
Enter per-transaction economics
Revenue actually received, direct cost and cost to serve per transaction, and days to pay.
- 4
Enter frequency and retention
Transactions per customer per year and the retention rate. Keep retention below 95% for the lifetime calculation.
- 5
Enter total transactions
The number of transactions of each type in the year, to see total contribution and use of capacity.
- 6
Read the results
Compare LTV ÷ CAC, payback months and contribution per transaction. Note where capacity is going.
- 7
Model one change
Use the prompts to estimate the effect of renegotiating, capping or growing one type.
Step 08 / 13
Worksheet
One row per customer type. Use 12 months of data. Your entries are saved in this browser.
Customer economics sheet
ALifetime value and acquisition cost by customer type
| Customer type | Acquisition spend | New customers | Revenue per transactionActually received | Direct cost per transaction | Cost to serve per transaction | Days to pay | Transactions per customer per year | Retention (%) | Transactions this year | CAC | Contribution per transaction | Annual contribution per customer | LTV | LTV ÷ CAC | Payback (months) | Total contribution | Share of capacity used | Rank | Remove |
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Total | – |
- Total contribution
- –
- Average contribution per transaction
- –
- Best contribution per transaction
- –
- Worst contribution per transaction
- –
BOptions for each customer type
Step 09 / 13
Interpret your results
A completed worksheet is evidence, not a conclusion. Read it before you decide.
- 1.Which customer type earns the most per transaction, and what share of your capacity does it get?
- 2.Is any customer type contributing nothing, or losing money, once cost to serve and credit are counted?
- 3.Which ratio surprised you: did a type with a high LTV ÷ CAC turn out to be thin in absolute terms?
- 4.How long does your acquisition spending take to pay back for each type?
- 5.Where is your largest opportunity: acquiring more of a valuable type, renegotiating a poor one, or capping one?
- 6.How confident are you in your retention figures? What would change if retention were 10 points lower?
| If you find… | It usually means… |
|---|---|
| A type with near-zero CAC has a huge LTV ÷ CAC but low contribution per transaction | Do not judge on the ratio alone. Compare contribution per unit of capacity. |
| A contract or scheme has negative contribution per transaction | Every customer it brings costs you money. Renegotiate before renewal, or exit. |
| LTV ÷ CAC above 5 for a type you spend little on | You are probably under-investing in acquiring that type. |
| Cost to serve above 20% of revenue for a type | The administrative model is too expensive: simplify claims, approvals or reporting, or charge for them. |
| Capacity is above 85% and low-value types use most of it | Reserve capacity for higher-value types; cap the rest. |
| Retention is low for your most valuable type | Retention is cheaper than acquisition. See M49. |
Step 10 / 13
Make the decision
Make a decision for each customer type. Record the most important one.
Invest to acquire
Choose this whenHigh contribution per transaction, LTV at least 3× CAC, short payback.
What followsIncrease acquisition spend in the channels that bring this type; track CAC monthly.
Keep and protect
Choose this whenValuable type with good retention.
What followsProtect service quality; measure retention quarterly.
Renegotiate terms
Choose this whenVolume is useful but price, payment days or cost to serve make it thin or negative.
What followsPrepare a proposal with specific terms and your walk-away point.
Cap capacity
Choose this whenContribution per transaction is low and capacity is near full.
What followsReserve a fixed share of capacity for this type; release the rest to higher-value types.
Exit
Choose this whenContribution is negative and the counterparty will not change terms.
What followsGive notice in line with the contract; replace with higher-value customers.
Your decision record
Step 11 / 13
Action plan
Contract renewals set the timetable. Put the next renewal date first and plan backwards from it.
Implementation cycle: 30 / 60 / 90 days
| Action | Owner | Deadline | Expected result | Resources needed | Measure of success | Review date | Remove |
|---|---|---|---|---|---|---|---|
| Days 1–30: Calculate | |||||||
| Days 31–60: Renegotiate and reallocate | |||||||
| Days 61–90: Acquire and measure | |||||||
Step 12 / 13
Management routine
Customer economics change with every price change, contract renewal and marketing campaign. Keep them visible.
Monthly
Capacity share and contribution per transaction by type
- Is capacity going to the right customers?
- Did any type's contribution move?
Monthly
CAC by channel for acquired types
- What did each new customer cost?
- Which channel is getting more expensive?
Three months before each renewal
Re-run the economics for that contract or scheme
- What terms do we need?
- What is our walk-away point?
Annually
Retention and LTV review
- Which types are staying longer or leaving faster?
- Where should next year's acquisition budget go?
Step 13 / 13
Final output
By the end of this module you should have
- Cost to acquire, cost to serve, retention and lifetime value for each customer type
- Contribution per transaction and share of capacity by customer type
- A view of which types to invest in, protect, renegotiate, cap or exit
- Proposed terms for your weakest contract or scheme
- A recorded decision with its expected effect on contribution
- A renewal calendar, a 90-day plan and a monthly routine
When the problem is bigger than this module
These calculations are enough to make better decisions about customer types. Where a business depends on schemes, insurers or large contracts with complex terms, the negotiation and the redesign of capacity can be involved. In a Growth Partnership, KSL works through it with you, alongside customer profitability (M46), retention (M49) and pricing (M50).