Unit Economics - The Foundation of a Profitable Business
As a business owner, do you truly understand what drives your profitability and growth? Many entrepreneurs struggle to gain clarity on these critical questions. That’s where unit economics comes in. At Weekly Accounting, our system acts as the CFO you don’t have to hire, illuminating your revenue engine and analyzing trends in your unit economics to forecast cash flow and profitability. Let’s dive into what unit economics is and why it’s so important for your business.
What is Unit Economics?
Unit economics is a way to evaluate the profitability of your business on a per unit basis. A “unit” can be a single product, a customer, a subscription, or any other quantifiable item that generates revenue for your business. By breaking your financials down to the unit level, you can gain powerful insights into the true health and sustainability of your business model.
Why Unit Economics Matter
Understanding your unit economics is absolutely essential to building a profitable, scalable business. It allows you to:
- See exactly how much revenue and profit you generate from each unit
- Identify which products, services, or customer segments are most profitable
- Make data-driven decisions on pricing, expenses, and growth investments
- Project your path to overall profitability based on unit-level metrics
- Determine if you have a viable business model that can support growth
In short, unit economics are the foundation upon which a healthy, sustainable business is built. Without a solid grasp on these numbers, you’re flying blind.
Key Metrics in Unit Economics
To calculate and track your unit economics, you need to know several core metrics:
- Revenue Per Unit: How much you earn from selling one unit
- Cost Per Unit: All costs directly related to producing/delivering that unit
- Profit Per Unit: Revenue Per Unit minus Cost Per Unit
- Lifetime Gross Profit (LTGP): Profit Per Unit multiplied by average repeat purchases per customer
- Customer Acquisition Cost (CAC): How much it costs to acquire a new customer
Trends in Unit Economics
Many founders talk about their Lifetime Value (LTV) to Customer Acquisition Cost (CAC) ratio being 2.4x. However, this point-in-time view of LTV to CAC is often meaningless for two reasons:
- Lifetime Value is an ambiguous term. Most calculate it as Lifetime Revenue. For this reason, the metric Lifetime Gross Profit (LTGP) is preferred.
- When presented as a single metric for a point in time, it fails to show trends that correlate with the company’s growth potential.
When analyzing LTGP/CAC, it should be sampled over time – weekly, monthly, quarterly and cumulatively. Looking at cumulative LTGP/CAC provides a baseline performance metric for the entire company history. Cumulative CAC is calculated by taking all ad spend divided by all new first-time customer orders.
Unit Economics for SaaS
The Software as a Service (SaaS) model presents unique challenges and opportunities in understanding and optimizing unit economics. Due to the subscription-based nature of SaaS businesses, metrics like Lifetime Gross Profit (LTGP) and Customer Acquisition Cost (CAC) take on heightened importance. This section will explore the intricacies of unit economics in the SaaS context, highlighting strategies for maximizing profitability and growth through Weekly Accounting’s system.
Understanding SaaS Unit Economics
Subscription Model Dynamics
In SaaS, revenue is generated through recurring subscriptions rather than one-time purchases. This fundamentally changes the calculation and significance of unit economics. Instead of focusing on the profit margin of a single sale, SaaS businesses must consider the lifetime gross profit of a customer and the costs associated with acquiring and retaining that customer over time.
The recurring nature of SaaS revenue means that small improvements in key metrics like customer retention and upselling can have an outsized impact on long-term profitability. Conversely, high churn rates can quickly erode the value of the customer base, making it crucial to continually monitor and optimize unit economics.
Key Metrics Specific to SaaS
While the core concepts of unit economics still apply, SaaS businesses must pay close attention to several specific metrics:
- Monthly Recurring Revenue (MRR): The total predictable revenue generated from all active subscriptions in a given month. Growth in MRR is a key indicator of business health and potential for expansion.
- Churn Rate: The percentage of customers or revenue lost in a given period. High churn rates signal problems with product-market fit, customer satisfaction, or competitive pressure. Reducing churn is critical for maximizing LTGP.
- Lifetime Gross Profit (LTGP): The total profit a business can expect to generate from a single customer over their lifetime. In SaaS, this is calculated by taking the average profit per customer and considering repeat purchases over time. Increasing LTGP relative to CAC is the key to profitability.
- Customer Acquisition Cost (CAC): The total sales and marketing cost required to acquire a new customer. This includes ad spend, salaries, commissions, and overheads. Keeping CAC low while still achieving growth is a constant challenge in SaaS.
By tracking these metrics on a cohort basis and monitoring trends over time, SaaS businesses can gain deep insights into their unit economics and make data-driven decisions to optimize for profitability. Weekly Accounting’s system is designed to automate the tracking and analysis of these critical SaaS metrics, giving businesses real-time visibility into their unit economics.
eCommerce Unit Economics
For eCommerce businesses, understanding and optimizing unit economics involves tracking similar core metrics but with a focus on unique aspects like average order value, shipping costs, and return rates. The goal is to maximize Lifetime Gross Profit (LTGP) per customer while minimizing Customer Acquisition Cost (CAC) and other operational costs. By
analyzing metrics such as average cart size, frequency of purchase, and customer lifetime span, eCommerce companies can strategically adjust pricing, marketing, and logistics to drive profitability. Weekly Accounting provides specialized insights and analysis for eCommerce businesses, helping them navigate the complexities of online retail unit economics.
How Weekly Accounting Helps
Our system integrates data from all your business applications to present a clear, up-to-date view of your unit economics every single week. Rather than waiting for monthly financial reports, you get actionable data 52 times per year.
With our Integrated Financial Model, all your metrics are automatically calculated and rolled up into weekly views and reports. This frees you up to focus on analysis and data-driven decision making to improve your unit economics.
Forecasting Profitability with Unit Economics
Armed with your unit economic data, you can create reliable financial forecasts to map your path to profitability. Weekly Accounting helps you model out different scenarios based on adjustments to your core unit metrics.
Want to see the impact of increasing prices? Reducing unit costs? Improving customer retention? Our system enables you to play with the numbers and immediately see the potential impact on your cash flow and profitability. This is the power of unit economics in action.
The Bottom Line
Your business will live and die by the quality of your unit economics. Without a clear, real-time understanding of these numbers, you’re operating in the dark and risking the sustainability of your business.
Weekly Accounting sheds light on your unit economics, giving you the clarity and insight you need to make confident, data-backed decisions. It’s like having a CFO in your corner, 52 weeks a year.
Don’t let another week go by without a firm grasp on your unit economics. Your profitability depends on it. Contact us today to learn how Weekly Accounting can help.
About the Author
John Zdanowski is a highly experienced entrepreneurial business engineer and investor who has been helping founders succeed since 1997. His extensive background in finance and business strategy makes him an expert in defining and applying the concept of unit economics.
As a co-founder, founding investor, board member, and full or fractional CFO to numerous venture-financed companies, Zdanowski has led or arranged over a hundred private equity and debt financings, dozens of rounds of venture capital, two IPOs, seven sales of secondary stock, sixteen acquisitions, and the sale of multiple companies. His portfolio includes notable successes such as Assembled Brands (raised $100m), General Assembly (acquired for $413m), and Market Leader (IPO then acquired for $355m).
Zdanowski’s deep understanding of the financial drivers behind business growth and profitability has been honed through his work with a wide range of companies across various sectors. His expertise in analyzing and optimizing unit economics has been a key factor in the success of many of these ventures.
As the co-founder and CEO of Weekly Accounting Inc., Zdanowski has developed a system that illuminates the revenue engine, analyzes unit economics, and forecasts profitability and cash flow for businesses. This experience, combined with his educational background from Harvard Business School and Syracuse University, positions him as a leading authority on the subject of unit economics and its application in driving business success.