To get the most profit in your business, you must know your numbers. This applies to every aspect of your business.
For your website…you need to, for example, know how many visitors you have every month, where your web traffic originates, which pages they are visiting, and what they are clicking on when they go to your website. And do those click convert to money in your business.
For your email marketing…you need to know your open rate, your click through rate, how many people unsubscribe, and monitor your bounces among other things. Who is clicking through your emails and are they becoming paying customers or clients. That is why monitoring your email reporting is so important.
For your videos…you should know your best performing videos, how long are they watching each video, traffic sources, drop-off rate, and more.
For direct mail campaigns…you should track when you start your email campaign, cost of each piece sent along with total cost of each mailing, the content in each mail piece, the call to actions, how many pieces sent, who they were sent to, response rate via incoming phone calls or emails, among other metrics.
For Facebook Ads…you need to track the number of impressions, reach, clicks, cost per click, click through rate, total ad spend, copy changes, image changes, etc.
The bottom line is this…you must know your numbers to run a profitable business!
How much should you spend on marketing?
You have all the pieces in place to start your business, but you are not sure how much money you should spend on marketing your business or if you should spend any money on marketing.
You know you have to spend money on marketing. I don’t care if your business is going through the roof, there must be money allocated for marketing because the bad times will come – pandemic, weather, change in the economy, whatever – something will happen. That’s not a gloom and doom statement. It’s just a statement from someone who has been in business a few years and knows things will happen that are out of your control.
Most business owners struggle with how much to spend on marketing.
“Half the money I spend on advertising is wasted; the trouble is, I don’t know which half.” – John Wanamaker.
I remember being at a Dan Kennedy conference and he basically said whoever can spend the most on marketing to acquire new customers can dominate their market. And I have seen that hold true for numerous businesses. It is a tremendous advantage for any business. But you need to know how much you can spend. If you spend $1000 to sell a $500 product, you may have a problem.
How much money you spend on marketing is in direct relation to your customer lifetime value or (CLV).
What is customer lifetime value?
Wikipedia shows CLV in several different ways – customer lifetime value (CLV or CLTV)), lifetime customer value (LCV), and life-time value (LTV). Just know that you will see CLV referenced in several different ways, but it means the same thing. The first reference to CLV came in 1988.
The CLV is defined as the net value of a customer relationship based on projected future value of that customer. Some people will calculate this based on gross revenue per customer. This is flawed math. It must be calculated on net profit from each customer. Otherwise, it’s easy to convince yourself that your ad spend is okay when the reality is you are going in the red every time you get a customer.
Customer lifetime value lets you know the importance of long-term customer relationships and how valuable nurturing those relationships can be. Especially if your business is not a one-time sale such as a retail operation. (Even then you probably have opportunity for multiple sales if you have follow-up strategies in place. But that is a topic for another blog post. )
How to calculate customer lifetime value
The simple math is as follows…
You have 10 customers who have paid you $10,000 each over the past five years. So in five years each customer has paid you $50,000. This makes the customer lifetime value $50,000 if you calculate it on gross revenue.
But we know that is flawed math, so we will look at the real numbers.
Let’s take a smaller number to simplify the math – the amount an average customer spends ($1000) minus cost of goods sold($200). Now you are left with $800 before spending any money to acquire the customer.
Now let’s look at the cost to acquire a customer…
You invest $1000 per month to generate 30 leads. You know from tracking your numbers you convert 1 in 3 of those leads. That’s 10 new customers you will generate every time you spend $1000 on advertising. So each customer costs $100 to acquire.
If each acquired customer spends $1000 for your product or service, then you take out the cost of goods sold which was $200 for a net profit of $800. So if each new customer cost you $100 to acquire, then you have a net profit of $700 per customer.
Now you know you could potentially increase your ad spend to acquire a customer. And the most important part of these calculations is now you can make an informed decision on how much to spend on advertising.
This is something that can be calculated and it allows you to make an educated decision when it comes to spending money on your marketing.
But sometimes the math is not so simple…
What if you have a sales funnel where you are selling a lead generation book on the front end of your funnel. They go through your funnel to eventually purchasing a $499 product. You lost money with the book, but made money on the backend.
Then the math gets a little more complicated. I will not get into that now, but I will address it in a future blog post.
What do businesses generally spend on marketing?
The Small Business Administration (SBA) recommends spending 7% to 8% on marketing. So if you take 8% of the $800 net, that would be $64. So in the scenario above, according to the SBA, you would be spending $36 more per month on marketing than you should be spending.
But, as with everything concerning marketing, it depends. It depends on volume. If I can sell twice as much by spending $36 more on advertising, I’m spending the money.
I’ve seen businesses spend 15% to 25% when first starting their business to ramp up quickly. In this case, you ad spend in the scenario above would be low.
Every situation is different. You just have to access your specific situation, test your marketing to get your real numbers, and make a decision.
But at least now you know how to get started when trying to decide on how much to spend on advertising.
Think about the math when considering how much you can spend on marketing. Then the next time someone is trying to sell you ad space, an online marketing campaign, or whatever it may be, you can do the math to see if it makes sense for your business.
All the best,
Mike Coleman