De-averaging your marketing investments and paying close attention to how your incremental marketing investments pay off is a post I've been intending to write for a while now.

The good folks at Rimm-Kaufman group, however, saved me the trouble with yesterday's excellent PPC Averages can Hide Incremental Nightmares.  Please take the time to read it.

As I was reading it, I started to think about applying LTV to the methodology.  When you think about making decisions based on LTV, the story becomes even more clear.  All will be revealed (with a graph!) after the break.

First, I roughly recreated the RKG dataset from visual examination of the graphs.

Then, I developed some hypotheses about how the customers acquired in the original effort would perform.  They included:

1. Incremental Lifetime Sales. The top bucket of customers (acquired with the first $10,000 in ad spend) would generate an additional 80% more sales.  The bottom bucket would generate just 5% more sales.
2. Incremental Lifetime Marketing Investment. The incremental advertising cost to generate the incremental sales (you have to spend money to make money, regardless of what your CFO may want to believe!) ranged from a 7% A/S ratio for the top bucket to 1,000% for the last bucket.

I suspect I've been too conservative in my assumptions of incremental sales for the top bucket and the rest of the A/S assumptions are just estimates for discussion purposes.  I made no additional assumptions for improvements in gross margins and so on.

So what happens when I applied my assumptions? Here's the graph:

The light yellow and light blue lines are essentially the graphs on the original RKG blog.  The orange/dark blue lines show what happens when I try to add in LTV.  What happens?

1. Peak profit (marketing income) shifts leftward. That means that instead of hitting max profit at around $60K of original acquisition ad spend, this model shows it peaking at around $40K of original acquisition ad spend.
2. The profit slope changes. It becomes more steep in the first four buckets of marketing investment and then the rate of change also falls off more rapidly after the peak.

Of note is that I haven't considered overall revenue and other factors (economies of scale) that may impact marketing investment decisions.  You may, for example, want to be slightly less efficient on the margins for revenue volume purposes or to maintain volumes if you have costs that operate as step functions.

What does this mean as you look at incremental marketing investments?

1. It's even more important than Rimm-Kaufman indicates when you look at investment on an LTV basis.  The mistakes on the margin are not as gradually dilutive to your profit, when you consider LTV.
2. It's important to get up the experience curve. Given that the slope of profit rises pretty quickly, you're leaving money on the table if you don't (or can't) bucket the marketing investments and quickly march up that curve--by investing more in marketing, smartly.

How do you analyze the incremental performance of your PPC campaigns and other marketing investments?  What challenges do you face when trying to build models to maximize your marketing performance while delivering against volume or revenue constraints?

Update, August 6th--Graph above was updated due to some missing data.  All comments above still hold.  The original graph uploaded this morning is available here for review.

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OK, as a CMO you're going to be fired in ~23 months anyway.

But a recent study, carried out by Marketing Management Analytics, Financial Executive and Ed See, makes me think that more senior marketing executives should double-check the shine on their resume and perhaps consider a few more networking lunches in the near future.

A very brief summary of that report found in Ad Age frightens me and brings to mind a few courses of action that you can take today, if you find yourself in a similar situation.

A few quick points from the study follow. The CFOs interviewed said that:

• 9/10 of CFOs don't use marketing ROI metrics in development of marketing budgets.
• 7/10 don't use their company marketing forecasts for earnings guidance or public disclosures.
• 6/10 believe their marketing departments have inadequate understanding of financial controls.
• less than 4/10 said their company marketing forecasts were audit-ready.

From the CMOs and senior marketing leaders surveyed:

• Only 33% of CMOs reported "full cooperation and an open dialog" with finance in setting metrics and methodologies for marketing ROI calculations in 2008.
• Only 10% indicated that they could forecast the effect of a 10% cut in marketing spend.
• Only 14% said senior management had confidence in their firms' marketing forecasts.

To summarize:

1. CMOs ability to estimate their impact on the business isn't even of ballpark (+/- 10%) quality.
2. CMOs don't have a great grasp of providing accurate and reliable forecasts of investments that will pass reasonable audit scrutiny.
3. CMO's don't play well with others.
4. The CFO's have so little confidence in the marketers that they crunch the numbers with relatively little input from the marketing team.

So what do you do, if you're a senior marketing leader and find yourself in a situation like the above?

First, accept you have a problem.  Get with your CFO and let them know one of your top priorities is to fix the problem.  Make sure you both understand what the CFO's specific problems are with your marketing planning, forecasting, ROI calculations and assumption development processes.

Second, triage. Figure out what you're doing wrong, but as importantly, figure out what you're doing right (and I know you're doing a number of things correctly) and learn from those processes that are working well.  Work out a punch list with your CFO, and understand the "A" priorities.

Third, partner with your CFO to improve your process. I insist in the concept of the financial guys driving the calculations and modeling side of the equation, the marketing team leading the assumptions and scenario planning, and then a "team of two" on running the iterations of your plan or forecast.  (The marketing team should pressure test the calculations and the financial team should pressure test the marketing assumptions.)

Fourth, own the issue. As CMO or senior marketing leader, if your financial leadership doesn't trust your ability help get to clear marketing metrics and ROI calculations, it's your problem, not theirs.  Make it really clear that you own the forecasts, plans and budgets and that you'll be the one to be held accountable for the hits and misses--not the financial guys who built the models, nor can you blame the last CMO for problems.  It's on you.

So do you have problems with your planning and forecasting? Are you a financial pro who needs some help in improving the planning and forecasting competency of your marketing team?  Let's talk, here or on the phone.

photo credit: Gary Denness

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A recent article in the New York Times got me thinking about the psychology of marketing again, and how some basic principles are used or under-used in social media marketing.

"Warning: Habits May Be Good for You" explores how an anthropologist turned to marketing experts from CPG companies like Procter & Gamble to help increase the incidence of hand-washing with soap after using the toilet in the nation of Ghana to improve the health of children.  Obviously, this was an important effort and I was encouraged to see marketing practitioners as instrumental in helping achieve success in this endeavor.

As I was reading the article, it struck me that many of the techniques used are found in Robert B. Cialdini's classic Influence: The Psychology of Persuasion. I'd lent out my copy a few years ago and, thankfully, had to buy a new version which includes an epilogue written by Dr. Cialdini in 2007.  My re-read then triggered a few thoughts on social media.

If the social media crowd can stop navel-gazing long enough to do some quick research and scientific work, boy will money be made. [More after the jump.]

Dr. Cialdini's research caused him to identify six key weapons of influence:

1. Reciprocation
2. Consistency
3. Social Proof
4. Liking
5. Authority
6. Scarcity

Many of his examples focused on face-to-face selling or just plain interactions with others.  When I first read the book (originally published in 1984) for the first time in 1995 or so, I was struck by the fact that my company at the time was using all six of those principles, but in various offline direct response channels.

We didn't intend to use Cialdini's principles; rather, we evolved into using them through years of scientific univariate tests.

Which of the six principles is most important to a social media startup? From what I can see, it's the concept of Social Proof.  Jason Calacanis becomes a Twitter advocate and, because several of his followers also pick up on Twitter, it soon provides proof to a certain circle that Twitter is a good thing.  Boom, the product takes off.

What's the problem with the concept of Social Proof in growing social media? Try this:  Ask anybody over 40 who's not a regular reader of Alley Insider, Valleywag or Paid Content what Twitter is.  My bet is you get a blank stare two out of three times.

Simply relying on Social Proof can get you pigeonholed within a very select segment of people.  Now, for companies that provide great services to that limited target audience, it can be very good business indeed. (See how Rafat Ali made out with Paid Content.)

The key is how to use the concept of Social Proof to expand beyond that initial, lucrative target audience and become more ubiquitous.

Summary and key takeaways

1. What's "old" is new again. Go back and do your research.  Classics of marketing and psychology are relevant today, just as the concepts they cover were 10,000 years ago.  Plus, with Amazon, it's now cheap to really build your library of information!
2. Consider how humans are hard-wired. When building products, services and delivery methods for those products, think about basic human infrastructure and how you can find the path of least resistance to your ideas.
3. Remember that great psychology can't overcome a bad product. You can certainly fool some of the people some of the time using some of Dr. Cialdini's "click, whirr" discoveries.  But that's still only going to take you so far.  Start with great products.

I'll look at more of Dr. Cialdini's concepts in the future.

In the meantime, how have you applied psychology in your marketing?  Or, when have you seen good (or clumsy) attempts been applied to you?

photo credit: HeffTech

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How do you make money?

This is one of the first questions I ask all my clients. The answer usually comes back including some aspect of "buy low, sell high" and other margin-related facts. Regardless of the complexity or depth of the answer, one word is always included.

The magic word is "people."

So why isn't all marketing done on customer lifetime value (LTV)?  What are the five things you need to consider when developing LTV-based models that allow you to build CPA (cost per acquisition) based marketing plans?

You typically don't make money on the one-shot sale.  Your automobile dealership didn't make money strictly on the sale of your car, unless you struck an extraordinarily poor deal.  It was the financing, insurance, trade-in and accessories that made the transaction palatable to them.

The real money is in the service and the 2nd and 3rd cars that you might buy in the future.  (Along with the ancillary financing, insurance, trade-in and accessories associated with those sales.) Acquiring you as a customer is the key to long-term profits for the dealership.

Why doesn't everybody consider an LTV-based marketing model?  

I was speaking to a potential client last week and asked them "how much did it cost to acquire new customer?" and "what is the lifetime value of your customers?"

The fact that they didn't know the LTV of their customers wasn't a surprise.  It was a new business, after all, and they didn't have any history.  What was surprising was that they didn't believe customer LTV and having a solid CPA was the way to look at the business.  Marketing was not looked at as a revenue-generating component of the business. Rather, it was seen as an expense and nothing more than a percentage of sales.

I thought this was interesting. Is it true that there are some businesses where looking at customer acquisition costs and calculating customer LTV doesn't make any sense?

I thought about it all weekend and came to the conclusion that--in the B-to-C space--the answer was no.

If you generate profits by selling to customers, then you need to calculate and understand customer LTV and use that to understand your allowable CPA.

Estimating (or calculating exactly) customer LTV fundamentally only includes about five factors.  They are:

1. Understanding your conversion funnel.  You have to have some idea of the Suspect to Prospect to Lead to Buyer flow. You have to know that conversion rate, because your marketing activities will bring in people in different parts of the funnel. Sometimes, your marketing effort will get you no more than a suspect. Other times, such as in SEM, you'll get somebody who's ready to buy right then. Knowing and understanding the flow of suspect through buyer will help you allocate your marketing dollars more effectively across all your channels.
2. Initial unit of sale and margin on the unit.  You need to know what the initial unit of sale is and the level of profit (before marketing expense) is included in that unit of sale.
3. Opportunity for repeat purchase.  Is your product one that needs to be replenished periodically?  How frequently?  How many of the initial buyers will replenish from you, as opposed to your competitors?
4. Ancillary purchases.  What other products and services do you sell?  What is the attach rate for each of those to your new customers and installed base?  In our case of the automobile dealership, what percentage of the new car buyers will choose to come back to the dealership for routine maintenance?  (And what kind of marketing activities will you have to undertake to encourage them to do so?)
5. LTV window. This is probably one of the most important things to consider.  In the case of our automobile dealership, the lifetime value window for a car buyer in her 30's might be 5 or 10 years.  In the case of a digitally-delivered product--say, music downloads--I think you'd be taking on a lot of risk to consider a window longer than 18 to 24 months.

The rest is just building an Excel model to determine how much you could spend and then developing a bottom-up plan to exhaust all possible marketing channels that can deliver against that allowable cost per acquisition.

Yes, sometimes you'll have to make some assumptions and sometimes you'll not have all the data you'd like.  But if you know the ballpark you're playing in, you'll know which marketing channels might make sense and make your ROMI goals.  You'll also know where to take calculated risks to stretch your marketing budget and grow more quickly.

Summary and takeaways

1. Every business should know the value of a customer over some reasonable time frame, because profits come from selling products and services to customers.
2. It's relatively easy to calculate customer LTV.  Even if the data isn't entirely clean, it's still pretty easy to determine at least the rough value of a new customer.
3. Build your acquisition marketing plans using a known allowable CPA.  Once you know how much a customer is worth, it's easy to figure out how much you'd invest to get them to buy from you.

So what do you think?  Can you really calculate customer LTV for businesses as diverse as magazine subscriptions, convenience store customers and shoe store customers?

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A client recently asked me "who can tell me if my website is working well for me?"  My immediate response was "your customers and your browsers."  This, of course, triggered a conversation of how it was possible to talk to tens of thousands of (usually) anonymous visitors, collect their insights and then translate that to marketing improvements.

Prior to a large amount of advertising moving to the web, with the associated tracking and analytical capabilities, my response didn't make a lot of sense.  Unless you were the sole proprietor of a local general store or had massive resources to undertake a large amount of expensive primary research, it was really hard to figure out what exactly about your marketing was working for your customers and prospects.

Until the rise of web analytics, that is.

In my opinion, the best thing that's happened in the last several years for online marketers was when Google acquired Urchin software.  This event made it easy and free for marketers to analyze the results of their online marketing activities.  Sure, for large business or those with specialized needs, solutions such as Omniture might be better.  But the majority of businesses can do just fine with Google Analytics.

And now that Google Analytics was free, it became fairly simple to add another great product: Google Website Optimizer.  This product makes it easy even for a small company to undertake A/B or (provided the traffic is heavy enough) multivariate testing.

If you've found yourself in any meetings recently arguing the merits of "red vs. blue" or where to place a button on the website, ask your online marketing team if they're using Website Optimizer or any other systems, such as Optimost or Offermatica.

If not, get one of these installed now--life's too short to spend time arguing over the color of the sidebar, the placement of a button or the length of the copy on a website.  Especially when your customers will tell you exactly what makes them buy from you.  And when your internal back-and-forth will result in you making decisions that result in suboptimal ROI.

If you are using one of these optimization products and you're still having these meetings, then something else is wrong and you may not be using them correctly.

Trust me, your customers--when it comes to buying your products and services--are far smarter than you when it comes to landing page and website design.

I used to teach an internal class on direct response marketing and would show an example of three different online creatives, with the objective being to drive downloads of a software product.  When I asked a room full of 30+ people that probably contained over 400 years of marketing experience and probably 35 advanced degrees which creative delivered the best ROI, less than 25% picked the winning creative.  And even those folks couldn't tell me why they voted for that one.

Now imagine a multivariate test of a heavily-trafficked landing page, which results in several thousand "recipes."  Any chance your CEO picks the one that sells the best?  OK, maybe they hit it right once--blind dogs and acorns, after all.  But how about the nth time?  Not a chance.

So, let's say you're not using Website Optimizer or a similar product and maybe aren't too familiar with the products.  What to do now?

First, I suggest watching a quick (5 minutes or so) Google Website Optimizer overview.  Second, find an hour or so and watch this YouTube overview of the product, which goes into more detail about how to use the product for an A/B test.

Then, test something.  Run a simple A/B test of a couple of your landing pages.  Or maybe your registration pages.  It doesn't matter, as long as you get going.

Summary and takeaways

1. Don't guess--test.  If you don't empirically know why something works on your website, develop a hypothesis, design and test and know it.  Then, repeat.
2. Take advantage of free tools.  Like Google Analytics, Google Website Optimizer is free.  The only thing you pay for is your time and--by stopping the endless meetings and arguments and associated meetings--that's even free.
3. Build an organized testing plan.  You still can't test everything, unless you've got unbelievable amounts of traffic.  So definitely do use that experienced team to help prioritize the testing agenda

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