How much should you budget for marketing? Here’s a formula that will answer the question

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Matt Handal has provided a useful article Marketing Budgets: 5 Easy Building Blocks Nobody Talks About suggesting the formula for allocating marketing expenses/budgets.

Like many good ideas, in implementing it, the devil is in the details, and the problem is, the details require you to have data from previous experiences to make the calculations — and of course there is always the risk that historical experience cannot predict the future.

(I think of what it must have been like for the marketing department at Encyclopedia Britannia as online encyclopedias quickly displaced the multi-volume printed sets sold through extensive advertising campaigns and often in-home sales representatives.)

Handal correctly points that it is too simplistic to take a percentage of gross sales to come up with the marketing budget (which might be 5 to 13 per cent of the total).

There are other questions, including the profitability the new client order(s), the actual “customer acquisition cost” and (extremely important) the client’s “lifetime value”. There also are customer retention expenses.

As an example, say your client acquisition cost is $15,000 per client. (You might be able to calculate your actual cost by working out the total cost of preparing presentations and specific marketing materials, plus your overall marketing budget.

Next, what is your “average assignment value” and the profit per assignment.  Say your average assignment is $100,000 and your profit is 10 per cent, or $10,000.

You might think that you are losing money here, but the other side of the equation is the average lifetime client value minus the retention costs per client. So say your typical client orders over 10 years at $100,000 per year, and your retention costs are 2 per cent of the total.  Excluding the accounting concept of time value of money, this mean your would mean your lifetime client value is $100,000 less $20,000 in retention costs, for a net profit of $80,000.

Clearly in this case it is really rational to spend $15,000 to get the client. And now you have a formula that should, in theory, allow you to set out your projected revenue/profit goals, and work back to figure out how much you should spend on marketing.

However, I need to put “theoretically” here — because as I noted above, it is really dangerous to extrapolate past experiences into the future unless you are in a (rare) steady-state market position. Things happen. Competitors appear out of nowhere, new technologies disrupt established procedures, and inspiration turns to defeat if you don’t have a truly flexible and open attitude towards your business.

Finally, of course, there are questions about how you should spend your marketing budget. Plenty of times with established businesses, processes and expenses are baked into the annual plan and don’t get the proper scrutiny. For example, if you are attending trade shows, have you completed the simple calculations about the number of leads generated, their conversion rate, the actual revenue earned, and the client lifetime value? If you have and the numbers are positive, you have an easy “entry” in your marketing budget. But if you are just going because you’ve gone years before, and you believe it is important to attend and exhibit just to “keep in touch” with your clients, be sure to up the “customer retention cost” in your budget — you may find, ugh, that this is a truly significant and not terribly effective expense.

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