Unit Economics, Part 1
I’m often surprised at how few early stage startups have a good grasp on their unit economics. As founders and CEO’s, it is imperative that you understand them if you want to build a viable and sustainable business. For each incremental customer you acquire, there should be an incremental profit now or at some point in the future. If not, the business will not be sustainable.
What are unit economics
Unit economics are the revenues, costs and profit margin associated with each unit of sale. This can be each customer, each order, any other metrics by which you manage your business (I will use customer as a unit in this article which is commonly used in SaaS businesses.)
There are four basic components:
- Revenues per customer
- Cost of acquiring the customer
- Cost of initial onboarding and ongoing support
- Profit margin per customer
How to calculate them
Here is an example of how to calculate unit economics and its components for a SaaS business.
The first three columns represent monthly numbers that would typically appear in a monthly profit and loss statement. The far right column represents revenues and expenses that are attributable to each customer added up over the expected lifetime of that customer. For the purposes of this example, we’ve assumed a churn rate of 5% per month. Using the inverse of the churn rate (i.e. 1/.05=20 months) to arrive at the life of the customer. More detailed explanations follow this table below.

Let’s go through the calculations.
Revenue per Customer — revenues for the month divided by number of customers at month-end. This can be an average across all your customers or can be segmented into sub-groups, such as customers subscribing to different price plans or customers purchasing a particular product. Drilling down into more details can be quite revealing and may prompt you to look at different strategies.
Direct Cost per Customer — Costs directly related to hosting and processing, usually includes cloud hosting and payment processing. Labor and staffing costs are not included here. These tend to be fairly constant on per unit basis and driven by volume as a whole. The goal here would be to lower the unit cost over time to gain volume efficiency.
Customer Acquisition Cost — These are marketing and sales costs. Included in these are advertising costs, salaries for the marketing staff who generate content and execute marketing campaigns, sales staff salaries and commission, and software tools that are used by these teams. Then taking the total marketing and sales costs divided by the number of NEW customers acquired in a particular time period.
Customer Support Costs — These are typically payroll costs for the support team and the tools they use. For the sake of simplicity, the total cost is divided by the total number of customers to get the unit cost. If there is an upfront cost in onboarding customers, they should be broken out and treated as a one-time cost rather than applying that over the life of the customer.
In this example, we assume that the life of a customer (the period of time that a customer will generate revenues) is 20 months, the net profit per customer here is $966. It is also referred to as lifetime value or LTV. This was derived at by taking the total lifetime revenues, minus direct costs such as hosting and processing, minus the cost to acquire a customer, which is a one-time upfront cost, minus the customer support cost over the life of the customer. As long as the profit per customer is a positive number, it makes sense to continue to acquire more customers. If this number is negative, each incremental customer that you acquire would add losses to the business and therefore unsustainable.
In part 2 of this blog, I will discuss how the profit margin from the unit economics goes to support fixed costs and how that will eventually impact profitability. Then in part 3, we will discuss why and when unit economics are important as well as who needs to know.
This is a simplified view of unit economics. Each business has its nuances that can make this exercises more complicated. Please feel free to reach out or comment below if you have any question specifically related to your business.
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