Capital efficiency is the new VC filter for startups

The venture capital landscape has undergone a tectonic shift in the past year. A year ago, 90% of VC meetings with startups would have been about growth, regardless of how that growth would be achieved.

It didn’t matter if you were burning money left and right: as long as you had plump growth numbers, a solid story, and charisma, your round was pretty much guaranteed.

But as cash becomes more expensive, investors are paying increasing attention to savvy, resource-focused founders who can handle the tough times ahead. In 2023, most VC meetings are focused on whether a company can deliver sustainable and efficient growth during the downturn. And, as far as our anecdotal evidence goes, most founders haven’t fully adapted to change.

We repeatedly see startups at all stages fail to raise the same multiples and speed as they used to because by today’s standards they are terribly capital inefficient and may not even realize it.

In this article, we’ll explain why that happens and what metrics to track to understand where you stand on the capital efficiency ladder. We also explore possible solutions that have proven to be useful for the companies we work with.

But first, let’s talk about how should not Measure your capital efficiency.

The biggest mistake in measuring the efficiency of your capital

Understanding where you stand as a business comes down to the metrics you use and how well you can interpret them. In this regard, capital efficiency remains the blind spot for most founders, who rely on a single metric to draw conclusions. This figure can be found by dividing the customer lifetime value by the customer acquisition cost (LTV:CAC ratio).

The biggest problem with treating LTV:CAC as the holy grail of capital efficiency comes down to its oversimplified and often downright misleading nature. In fact, the rate at which SaaS companies misunderstand this metric has even sparked conversations about the need to retire the metric entirely.

For this method to be foolproof, you must use reliable retention data, which can be difficult for start-ups with little historical data to obtain. As an example, we’ve worked with several startups that miscalculated their CAC or based LTV calculations on unrealistic churn assumptions in the absence of historical data. This, in turn, showed “fake” LTV:CAC ratio numbers.

Whether or not SaaS should ditch the LTV:CAC metric entirely is debatable, but the point still stands: You can’t measure your capital efficiency. only that way. Investors today are focusing on other efficiency metrics that paint a more reliable and complete picture of startup capital efficiency, and so should you. Let’s see what they are.

Watch your CAC Payback

CAC Payback is one of the most revealing and focal metrics to turn to if you need to understand how efficiently you are using your capital. It shows how long it will take to pay off customer acquisition costs.

CAC Payback = Average CAC per customer / Average ARR per customer

How long should your recovery time be? Ideally as short as possible, with ballparks specific to your industry and business model. According Bessemer Venture PartnersHere are the B2B SaaS benchmarks against which investors will measure their recovery:

Benchmarks B2B SaaS CAC Payback

	SME	middle market	Company
Good	12	18	24
Better	6 – 12	8 – 18	12 – 24
Better	< 6	< 9	< 12

The importance of staying within these benchmarks is vital when competing with companies in the same space. For example, while it takes almost five years for Asana to recover its CAC, Monday manages to this 2.3 times faster, with a payback CAC of 25 months.

Unfortunately, we see startups that fall outside of these benchmarks all the time. One of the startups we worked with turned out to have a CAC return of more than 35 months. Just think about it: almost three years to break even on the acquisition of a single customer!

How do you fix a situation like that? There are a few key steps that will reduce your payback time:

Discover the fallen zones