It’s not just Netflix, customer acquisition costs are getting expensive for everyone

This article is written by Visa Kannan, a partner at Saison Capital, and originally posted here. Republished on TheLowDown with the author’s permission.

By now the entire world has chimed in on the Q1 results released by streaming giant, Netflix. They’ve largely pinned down the sluggish growth in their revenues and the drop in paid subscribers to three main factors: increased competition, shared accounts in households and macro situations like the Ukraine crisis.

Netflix had forecasted a 2.5M increase in paid subscriptions and delivered approximately 0.5M. Last year, for the same time period (i.e., Q1 ending March), they added around 3.98M paid subscribers for roughly the same marketing spend of approximately US$500M. All of the above factors — competition, the economy do influence Customer Acquisition Cost (CAC).

However, there could be another factor influencing CAC — the impact of the changes in privacy rules made by Apple last year.

In the All-In Podcast (Episode 77), Tech investor Chamath Palihapitiya referred to Netflix in this context as the “canary in the coal mine” i.e., an early indicator of what lies ahead for all companies that rely on digital marketing to acquire users. I would’ve loved to see a discussion in the earnings call along the lines of whether this change made by Apple last year has had any impact on Netflix’s ability to target new users and re-target lapsed users with content that is personalised to them.

In the meantime though, let’s look at what this change was and how it impacts almost all B2C players across the spectrum.

Digital marketing is taking a hit — what did Apple do?

Digital marketers use something called an IDFA (Identifier for Advertisers), which is a unique id assigned to a user’s iOS device, which enables marketers to collect valuable information about a user’s app usage and their behaviour online. This gives marketers the ability to personalise ads and measure campaign performance.

For example, if I have certain apps on my phone such as BabyCenter or a school-SaaS app (like Seesaw), that enable marketers to create a profile of me as a mom of an infant or of a young, school-going child, that’s valuable in targeting me for products and services relevant to me. Apple shared a report in April 2021 called “A Day in the Life of Your Data” which stated that the average app has 6 trackers, which collect a variety of information including location data, demographics, spending habits etc. to create a comprehensive profile of a user. This profile is then effectively used to target consumers better.

This kind of personalisation and targeting was de rigueur in the digital marketing world until last year, in May 2021, when Apple decided that a user’s privacy is a “fundamental human right”. As a result, starting with the iOS 14 update, users were given the ability to opt-out of sharing their IDFA tag. Now, every time a user downloads an app, a user has to explicitly allow the app to track their activity across other apps and websites.

Image: Explicit permission needed from the user

A study conducted one year out (April 2022) shows that 75% of users opt-out of being tracked, thereby significantly hampering the ability of digital marketers to create digital personas and profiles online to target ads.

Earlier this year, in February, Google also announced a “Privacy Sandbox” with the “goal of introducing new, more private advertising solutions. Specifically, these solutions will limit sharing of user data with third parties and operate without cross-app identifiers, including advertising ID.”

How will this impact growth strategies for B2C companies?

Simply put, it means that the ROI of digital marketing is going down (and might go down further if Google also introduces similar changes). As one might imagine, the marketing efficiency in terms of click-throughs, conversions etc. on a targeted, personalised campaign is higher than a more generally-targeted ad campaign. In its earnings call last week, Facebook’s Sheryl Sandberg summarised this well: “One is that the accuracy of our ads targeting decreased, which increased the cost of driving outcomes. The other is that measuring those outcomes became more difficult.”

If cost efficiencies from digital marketing go down, the cost of consumer acquisition (CAC) will go up for all B2C companies across the board. Rajat Agarwal from Matrix Partners had published this data just a few days ago on the CAC trend seen for B2C companies.

So what can B2C businesses do in the face of increasing CAC?

Going forward, fundamentals should still pave the way for growth strategies

Digital advertising has long been the mainstay for building a B2C business. Data suggests that around 40% of all money raised by start-ups as venture capital goes towards acquiring users on advertising platforms such as Google and Facebook.

Therefore, there is no one-size-fits-all answer but a few helpful strategies to adopt especially in the Go-To-Market phase of a product or service:

1. Highly differentiated offering: Circling back to the point on Netflix, right now their offering in terms of content is fairly undifferentiated and, going by popular opinion, lower in standard compared to what’s available on competing services. Differentiating on this axis is likely what will enable them to circumvent the CAC issues they are facing. The same holds true for all B2C products and services — the more innovative it is, the more likely it might sell itself. Although in the real world, these advantages usually start diminishing quite rapidly — the number of players offering 10–15 minute grocery delivery is proof of this.
2. B2B2C: Signing up companies to get access to their employees is a great GTM strategy and usually works well where the sales pitch has something for the company as well. An example of this is a company in our portfolio called Onebanc, which is a neobank that has as its GTM onboarding salaried accounts of employees. A lot of mental health startups are also looking to adopt similar strategies to onboard companies and provide services to their employees.
3. Social commerce: Social commerce as a GTM for grocery start-ups is predicated on lower CAC outcomes and we have seen this play out in our portfolio company in Indonesia called Segari. The community leader helps with demand generation and the commission charged by them is usually much lower than the CAC outcomes of digital marketing.
4. Community: This strategy is an oft-repeated one, I think the only thing worth clarifying is that building a community is not just about getting people with common interests together. Recently, an entrepreneur posted about how their community, which had as its common interest, remote-work, did not engage as frequently as expected because it just wasn’t a topic they wanted to talk about all the time. Same with a lot of products. Community helps reduce CAC but deserves a lot more thought.

With online CACs getting expensive, are there other marketing/distribution strategies that might help in this context? We would love to hear from anyone building this out differently.