What are Unit Economics?
Unit economics measure the profitability of your business at the individual customer or transaction level. The core question: do you make money on each customer, and how much?
If your unit economics are negative, you lose money on every customer. No amount of growth will fix that. If they're positive and strong, growth creates compounding value.
Why Unit Economics Matter
Unit economics determine whether your business model works. A company with poor unit economics is running on a treadmill, growing without building value. A company with strong unit economics creates value with every new customer.
Investors obsess over unit economics because they reveal business quality. Great unit economics justify investment in growth. Poor unit economics need fixing before scaling.
How to Calculate Unit Economics Step by Step
Step 1: Calculate your per-customer metrics. You need five numbers. Pull them from your billing system, ad platforms, and accounting software.
- ARPU: Total MRR ÷ active customers → $85,000 ÷ 425 = $200/mo
- Gross Margin: (Revenue - COGS) ÷ Revenue → 78%
- Monthly Churn: Customers lost ÷ starting customers → 3.5%
- CAC: Total S&M spend ÷ new customers → $90,000 ÷ 30 = $3,000
Step 2: Calculate LTV.
- LTV = (ARPU × Gross Margin) ÷ Monthly Churn
- LTV = ($200 × 0.78) ÷ 0.035 = $4,457
Step 3: Calculate LTV:CAC Ratio.
- LTV:CAC = $4,457 ÷ $3,000 = 1.49:1 ⚠️ Below the 3:1 target
Step 4: Calculate CAC Payback Period.
- Monthly gross profit per customer = $200 × 0.78 = $156
- CAC Payback = $3,000 ÷ $156 = 19.2 months ⚠️ Above the 12-month target
Step 5: Build the unit economics scorecard.
| Metric | Your Number | Benchmark | Status |
|---|---|---|---|
| LTV:CAC | 1.49:1 | 3:1+ | Needs work |
| CAC Payback | 19.2 months | <12 months | Needs work |
| Gross Margin | 78% | 70-85% | Healthy |
| Monthly Churn | 3.5% | <3% | Slightly high |
Diagnosis: Your gross margin is fine, but churn is too high (killing LTV) and CAC is too expensive. Fix retention first. Reducing churn from 3.5% to 2% would increase LTV from $4,457 to $7,800 and bring your ratio to 2.6:1.
Common mistakes founders make:
- Looking at individual metrics in isolation instead of the full picture
- Using revenue-based LTV instead of gross-profit-based LTV
- Not recalculating quarterly as metrics change
- Ignoring that unit economics vary by customer segment, channel, and plan
Key Unit Economics Metrics
Customer Acquisition Cost (CAC). Lifetime Value (LTV). LTV:CAC Ratio. CAC Payback Period. Gross Margin. Contribution Margin. These together tell the story of customer profitability.
Formula
Core unit economics metrics:
LTV = (ARPU × Gross Margin) ÷ Churn Rate
LTV:CAC Ratio = LTV ÷ CAC
CAC Payback = CAC ÷ (Monthly Revenue × Gross Margin)
Example
Per-customer analysis:
- CAC: $500
- Monthly Revenue: $100
- Gross Margin: 70%
- Monthly Churn: 3%
LTV = ($100 × 0.70) ÷ 0.03 = $2,333
LTV:CAC = $2,333 ÷ $500 = 4.7:1
CAC Payback = $500 ÷ $70 = 7.1 months
Unit economics are healthy. Scale confidently.