Unit economics: LTV, CAC, churn, and NRR

A startup can grow fast and lose money on each customer. Then growth makes the losses bigger, not smaller. Unit economics answers two questions about one customer. How much does the customer give you over its lifetime? How much does it cost to get that customer?

The answers tell you if more sales make the company stronger or weaker. Investors read these numbers early, because a model that loses money on each customer cannot correct the loss with more customers.

Predict first

Each customer pays $500 a month. The gross margin is 80%, and 2% of customers leave each month. How much gross profit does one customer give you over its lifetime, on average?

Type a guess before you continue. A guess first, even a wrong one, makes the answer easier to remember.

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Gross margin

Gross margin is the part of each revenue dollar that stays after you pay the direct costs to deliver the product. The direct costs are the cost of revenue: hosting, AI inference (the cost to run the model), payment fees, and customer support.

Gross margin
  = (Revenue − Cost of revenue)
    ÷ Revenue

	Software company	AI app
Revenue	$1,000,000	$1,000,000
Cost of revenue	$200,000	$550,000 (inference $500,000, hosting and support $50,000)
Gross profit	$800,000	$450,000
Gross margin	80%	45%

a16z wrote in 2015 that software companies “should have very high gross margins, in the 80%-90% range.” AI products pay for compute each time a customer uses them, so their margins are lower. ICONIQ reported an average gross margin of 45% for AI products in 2025. The lesson What investors expect shows how investors look at that margin.

CAC: the cost to get one customer

CAC (customer acquisition cost) is the cost to get one new customer. The sales and marketing costs include the salaries of the sales and marketing team:

CAC = Sales and marketing costs
      ÷ New customers
    = $60,000 ÷ 10
    = $6,000

Two versions exist. Blended CAC divides by all new customers, which includes customers who came free through recommendations. Paid CAC counts only the customers from paid channels. a16z writes that CAC “should be the full cost of acquiring users,” and that investors give paid CAC more weight.

Churn

Churn is the part of your customers or revenue that you lose in a period. Two kinds of churn can tell different stories:

• Logo churn counts customers. Each customer counts the same, small or large.
• Revenue churn counts recurring revenue that leaves, from cancellations and downgrades.

At the start of a year, 100 customers pay $100K of MRR in total. During the year, 10 small customers leave, and they paid $5K MRR in total. Logo churn is 10%, but revenue churn is only 5%.

Monthly churn compounds, like growth. Each month, the rate applies to the customers that are still with you:

Customers left after a year
  = (1 − Monthly churn)^12

Monthly churn	Customers left after one year
1%	88.6%
2%	78.5%
3%	69.4%
5%	54.0%
7%	41.9%

A 5% monthly churn sounds small. In one year, the company loses approximately 46% of its customers.

LTV: what one customer is worth

LTV (lifetime value) is the gross profit that one customer gives you during all of the time that it stays. The usual simple formula:

LTV = Monthly revenue per customer
      × Gross margin ÷ Monthly churn
    = $500 × 80% ÷ 2%
    = $20,000

Why divide by churn? If 2% of customers leave each month, the average customer stays 1 ÷ 0.02 = 50 months. Thus LTV = $400 of monthly gross profit × 50 months.

a16z is more strict than this formula. It uses contribution margin, which also subtracts other variable costs. The two sources, a16z and David Skok, calculate LTV from a margin, not from revenue.

LTV:CAC and CAC payback

The LTV:CAC ratio shows how many dollars of lifetime gross profit you get for each dollar that you spend to get a customer. In 2010, David Skok gave this rule: “LTV must be at least 3x greater than CAC.”

CAC payback is the number of months of gross profit that it takes to earn back the CAC. Skok’s first rule was less than 12 months. He later wrote that “many of the best SaaS businesses are able to recover their CAC in 5-7 months.”

Worked example · step 1 of 5

The unit economics of one customer

1. 1

   Gross profit each month

   The customer pays $500 a month. The company keeps 80% after direct costs.

   Gross profit = $500 × 80%
                = $400 a month

Show step 2Show all steps

Use the calculator to see which input moves LTV the most. Start with the numbers from the worked example. Double the churn to 4%. Then set the churn back to 2%. Cut the margin to 40%. Last, select “Revenue (a mistake)”. Compare the LTV.

Calculator

Unit economics: what one customer is worth

Set the price, the gross margin, the churn, and the cost to get one customer.

Revenue per customer each month

$500

Gross margin

80%

Monthly churn

2%

CAC: the cost to get one customer

$6K

Calculate LTV from

Gross profitRevenue (a mistake)

Gross profit

$400

Each month

Average lifetime

50 months

1 ÷ 2%

LTV

$20K

LTV:CAC

3.33x

Rule of thumb: 3x or more

CAC payback

15 months

Rule of thumb: 12 months or less

After one year

78%

Of customers stay

Gross profit from one customer, total so far

• A customer who stays
• The average customer
• CAC

Each customer brings $400 of gross profit a month and stays 50 months on average, so LTV is $20K. That is 3.33x the $6K CAC, which meets the 3x rule of thumb.

The company earns back the CAC in 15 months, slower than the 12-month rule of thumb. The average customer pays back later, because some customers leave first.

The chart has three lines. The green line is a customer who never leaves: it crosses the CAC at the payback month. The blue line is the average customer. Some customers leave, so the blue line bends, and over many years it gets close to the LTV. If the LTV is less than the CAC, the blue line never crosses the CAC line, and the average customer never pays back.

The table changes one input at a time. The base case is $500 a month, an 80% gross margin, 2% monthly churn, and a $6,000 CAC.

Change	LTV	LTV:CAC	Payback
None (base case)	$20,000	3.33	15 months
Churn of 4%	$10,000	1.67	15 months
Margin of 40%	$10,000	1.67	30 months
LTV from revenue (a mistake)	$25,000	4.17	12 months

Work it out

The price is $400 a month, the gross margin is 50%, monthly churn is 2.5%, and CAC is $4,000. What is the LTV:CAC ratio?

Your answerCheck

Can I trust an LTV from six months of data?

Be careful. The formula 1 ÷ churn uses one churn rate for all of the years in the future. A short history cannot show that churn stays at that rate. When the history is short, a16z recommends an LTV for 12 months and for 24 months. That is the gross profit that a customer gives in its first year or its first two years.

GRR and NRR: what last year’s customers pay now

The retention numbers compare what last year’s customers pay now with what the same customers paid one year ago. New customers do not count. The two numbers count different changes:

• GRR (gross revenue retention) counts only decreases: cancellations and downgrades. Thus GRR cannot be more than 100%.
• NRR (net revenue retention) also counts upgrades and price increases, the expansion revenue. Thus NRR can be more than 100%.

SaaS Capital uses these formulas:

GRR = (Start − Cancellations
       − Downgrades) ÷ Start
    = ($100K − $5K − $3K) ÷ $100K
    = 92%

NRR = (Start − Cancellations
       − Downgrades + Upgrades)
      ÷ Start
    = ($100K − $5K − $3K + $20K)
      ÷ $100K
    = 112%

An NRR of more than 100% shows that last year’s customers alone make the business bigger. Some investors call this “negative churn”. At 112% NRR, a company with $10M of ARR starts the next year at $11.2M before new sales. At 90% NRR, the same company must sell $1M of new ARR only to stay flat.

Calculator

GRR and NRR: the leaky bucket

Take the customers you had one year ago. Set what they cancelled, what they downgraded, and what they added.

ARR from these customers a year ago

Lost to cancellations

5%

Lost to downgrades

3%

Added by upgrades

20%

GRR

92%

Losses only

NRR

112%

Losses and upgrades

ARR today

$1.12M

From these customers

To stay flat

$0

New ARR to sell

From last year's ARR to this year's

A year ago

$1M

Cancelled

$50K

Downgraded

$30K

Upgraded

$200K

Today

$1.12M

These customers kept 92% of their revenue before upgrades: that is the GRR. With upgrades, they pay 112% of what they paid a year ago: that is the NRR.

Last year's customers alone grow ARR by 12%, with no new sales. Each new customer adds more growth.

Work it out

A year ago, your customers paid $500K of ARR. Since then, they cancelled $40K, downgraded $10K, and upgraded $75K. What is the NRR?

Your answerCheck

Quiz · question 1 of 5

Test what you learned

A SaaS company reports 125% NRR. Which statement must be correct?

• ALast year’s customers now pay 25% more in total than one year ago.
• BNo customers left this year.
• CGRR is also more than 100%.
• DTotal ARR grew by exactly 25%.