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This has got to be one of the most asked questions of marketing agencies and consultants. Proof… If you Google the phrase, you’ll find about 29 million results.
Understand that marketing is an essential investment in the future of your business. And while tempting, cutting your marketing budget during tough times like these could have potentially fatal consequences.
So, should you spend more or less? The answer depends on a number of factors. But the exact amount doesn’t matter as much as the fact that you have dedicated funds for marketing. As long as you have and track a marketing budget you can always adjust the numbers based on results.
Back to the question… How much should I spend on marketing? While there isn’t a magic formula – rest assured if you’re trying to grow your business fast – spend more on marketing! The following methods are all effective ways to set a budget:
1. Percentage of gross sales/revenue:
This is probably the simplest method. Most experts recommend somewhere in the range of 2-8% of gross sales but, in most cases, small businesses (less than $5 million gross revenue) should aim to dedicate something at the high end of this range. In fact, we recommend that you use projected sales figures rather than base your marketing spend on historical sales figures. You are dealing with future spending and its impact on future business performance. The actual percentage will depend on the gross profit percentage you are able to achieve.
Keep in mind that many industries have their own standard. For example:
• Industrial B-to-B: 1-2% of gross sales
• Hospitals: 1-2% of net revenues
• Law firms: 1-5% of gross revenues
• Retail: 3-10% of net revenues
• Banks/Credit Unions: 2-6% of assets
• Pharmaceuticals: 10-20% of net sales
2. Customer Lifetime Value (CLV):
A somewhat simple concept as long as your numbers are accurate. Identify how much profit (on average) you stand to make during the lifetime of a customer relationship and determine how much you are willing to invest per customer acquisition.
Customer Lifetime Value is defined as the present value of all current and future profits generated from a customer.
Here’s a formula to work from:
CLV = M x R/(1+I-R)
M = margin or profit from a customer in a certain period
R = your retention rate (most companies are between 60-90%)
I = discount rate (your company’s cost of capital, usually a rate of 8-16%)
For example: if your profit from a customer in a year is $1,000, you retain 80% of your customers, and your discount rate is 12%, multiply $1,000 x 2.5 to get $2,500 as that customer’s lifetime value. But remember, your CLV will change as your retention rate changes. Still, your CLV could have a big impact on profit even at small percentage retention increases.
3. Goals/Plan driven:
Identify measurable goals (for example: Number of new clients, Percentage of revenue increase) and then determine your sales equation. Again, this method requires accurate numbers based on your track record to make the equations viable.
For example: For every 100 prospects approached, you get 20 initial meetings. From those 20 meetings, you can expect to get 8 invitations to present a proposal. From 8 proposals, you will score 3 new clients. If your goal is 20 new clients, you now know that you need to approach 500 qualified prospects. You build your marketing plan to accomplish that and assign the costs accordingly.
Three different methods – pick the one that you’re most comfortable with to help you prepare your new marketing budget.
Keep in mind that you can have the right amount allocated to marketing and be spending it on the wrong mix. The money you choose to spend on marketing should generate additional revenue for your company. So if you are spending more on marketing than you are making in return for your efforts, then the marketing mix needs to be re-evaluated.
In another blog we’ll look at where you spend your budget once you’ve established it.