How to Calculate Unit Economics for Mobile Apps?
As a mobile app developer, understanding your app’s unit economics is crucial. Unit economics refers to the costs and revenues associated with acquiring each user or customer.
Calculating your app’s unit economics helps you determine whether your business model is sustainable and profitable over the long run. In this comprehensive guide, we’ll walk through the key steps for calculating unit economics for mobile apps.
Why Calculate Unit Economics?
You may be wondering – why go through the trouble of calculating unit economics? Here are some key reasons:
- Evaluate business model viability – The most important reason is to understand whether your app can be a viable, profitable business. Unit economics allow you to objectively evaluate whether your revenues from each user exceed the costs of acquiring and supporting that user.
- Optimize spending – By breaking down costs per user, you can identify the most effective customer acquisition channels to focus your spending on. You may find that some channels have better unit economics than others.
- Benchmark for scaling – As you project growth, unit economics provide a benchmark for the business model you need to scale. You know how much additional revenue needs to be generated per user as your app grows.
- Compare to competitors – Analyzing competitors’ public unit economics can reveal opportunities where you may have an advantage or need to improve.
In summary, unit economics is a crucial analytical tool for making smart business decisions and setting your app up for sustainable growth. The effort to calculate unit economics is well worth it.
How to Calculate Unit Economics Step-by-Step
Now, let’s go through the step-by-step process for calculating your app’s unit economics:
1. Define Key Metrics
First, you need to identify the key metrics that will go into your unit economics calculations:
- Customer Acquisition Cost (CAC) – This includes all costs spent on marketing and advertising to acquire a customer. The key is determining the cost per new customer.
- Average Revenue per User (ARPU) – This is the average revenue earned per customer or user over a given time period (often monthly).
- Lifetime Value (LTV) – The total net profit per user over the entire lifecycle of your app. This factors in the retention rate.
- Gross Margin – Revenue per user, minus direct costs of supporting that user, expressed as a percentage.
With these key metrics defined, you can now calculate your app’s unit economics.
2. Calculate Customer Acquisition Cost
Let’s start with customer acquisition cost (CAC). Here are the steps to calculate this:
- List your acquisition channels – For example: paid ads, organic search, and direct referrals.
- Tally total spend – Sum up all marketing and advertising costs over a given period across each channel.
- Count new customers – Determine the number of new customers acquired over the same period.
- Divide spend by new customers – For each channel, divide total spend by new customers to get the cost per acquired customer.
- Average for overall CAC – Calculate the weighted average across all channels for your overall average CAC.
Example:
- Paid ads: $5,000 ad spend, 100 new customers = $50 CAC
- Organic search: $0 ad spend, 50 new customers = $0 CAC
- Referrals: $500 referral bonuses, 10 new customers = $50 CAC
- Overall CAC = ($5,000 + $0 + $500) / (100 + 50 + 10) = $55
This gives you your average cost to acquire a new customer. Lower CAC is better for unit economics.
3. Calculate Average Revenue per User
Next, calculate how much revenue you generate on average from each user or customer (ARPU). Here are the steps:
- Calculate total revenue – Add up all revenue from existing users over a given period (say monthly). Include in-app purchases, subscriptions, ad revenue, etc.
- Count total users – Determine your total number of active users that generated revenue during the same period.
- Divide revenue by users – Take total revenue divided by total users to calculate your average revenue per user (ARPU).
Example:
- Total revenue from all users in July = $50,000
- Total users in July = 10,000
- ARPU = $50,000 / 10,000 = $5 per user
A higher ARPU indicates your app generates more revenue per user, which is better for unit economics.
4. Determine Customer Lifetime Value
While ARPU only looks at a short period, customer lifetime value (LTV) looks at the entire user lifecycle. Here’s how to estimate it:
- Project ARPU – Use your app’s average ARPU over 3-6 months to project annual ARPU per user. In the example above, ARPU is $5/month, so annual would be $5 * 12 = $60.
- Forecast retention rate – Based on your data, estimate the average number of months users remain active with your app. If most users drop off after 6 months, the retention rate is 50%.
- Multiply ARPU by retention rate – Take annual ARPU and multiply it by the user retention rate. In our example, $60 ARPU * 50% retention = $30 LTV.
- Subtract acquisition cost – To get net LTV, subtract your average customer acquisition cost. With $55 CAC and $30 gross LTV, net LTV is $30 – $55 = -$25 loss per user.
A positive net lifetime value is ideal, indicating profitable unit economics. If LTV is negative, you lose money on average per user acquired.
5. Determine Gross Margin
Gross margin measures profitability on a per-user basis. It compares per user revenue to the direct costs of supporting that user. Here is how to calculate it:
- Calculate ARPU (as outlined in Step 3)
- Estimate direct costs – These are the server, cloud, and other costs directly tied to supporting usage per user, like hosting or CDN costs.
- Subtract costs from ARPU – Take ARPU and subtract direct costs per user.
- Divide by ARPU – Take the result and divide it by ARPU to get the gross margin percentage.
Example:
- ARPU = $5
- Direct costs per user = $1 for server hosting
- Gross margin = ($5 – $1) / $5 = 80%
A higher gross margin percentage is better for unit economics. It means more revenue flows to the bottom line per user.
Analyzing Your Mobile App Unit Economics
Once you’ve calculated your app’s key unit economics metrics, you can analyze them to evaluate your business model and look for improvement opportunities. Here are some important ways to analyze your unit economics:
- Benchmark CAC – Research benchmarks for your industry’s average CAC. If your CAC is much higher, look for ways to optimize customer acquisition.
- Compare LTV to CAC – Your goal is to have LTV exceed CAC by 3-5x. If not, you may need to increase monetization or lower acquisition costs.
- Set ARPU goals – Look at competitors’ ARPU as goals to aim for. Can you increase in-app purchases or subscriptions?
- Review gross margin – Gross margin should be at least 40-50%. If not, look to lower direct user costs like hosting.
- Analyze trends – Compare unit metrics week-over-week and month-over-month. Are they improving as you scale?
- Segment users – Look for higher-value user cohorts by analyzing metrics across demographics, acquisition channels, usage behavior, etc.
- Optimize over time – Continually test tweaks to improve metrics: new features, pricing changes, and promotion methods.
Analyzing your unit economics and acting on the insights is crucial for maximizing the profitability and sustainability of your mobile app business.
Tips for Improving Mobile App Unit Economics
Here are some proven tips for incrementally improving your app’s unit economics over time:
- Reduce CAC with referrals – Referral programs incentivize existing users to recruit new ones, lowering CAC. Offer rewards for referrals.
- Increase ARPU with subscriptions – Subscriptions and recurring payments lead to higher ARPU and LTV over single purchases.
- Upsell and cross-sell – Sell discounted premium offerings or additional products to existing users to grow ARPU.
- Optimize conversion funnels – Improve signup, onboarding, and purchase flows to convert users into buyers more efficiently.
- Encourage retention – Loyalty programs, social features, and great UX boost retention rate and customer LTV.
- Target high-value users – Focus acquisition efforts on user segments with the highest potential ARPU and LTV.
- Scale intelligently – Balance growth with unit economics. Make sure revenues scale profitably with each additional user.
Key Takeaways
- Calculating unit economics helps evaluate the long-term viability and optimize the profitability of a mobile app business.
- The key metrics to determine are customer acquisition costs (CAC), average revenue per user (ARPU), customer lifetime value (LTV), and gross margin.
- Analyze metrics trends over time, benchmark against competitors, and segment users to uncover optimization opportunities.
- Improving conversion rates, retention, and subscriptions and targeting high-value users leads to better unit economics.
By regularly analyzing your mobile app’s unit economics and taking steps to improve them, you can set your app up for sustainable growth and success. Use these best practices to maximize profitability as you scale your mobile app business.
