9: Investing in Customers, Not Marketing Communication
The author objects to the question of how much a firm should invest in marketing programs: this focuses on the expense involved in developing and distributing advertising messages rather than the value the company seeks to obtain from the market by undertaking similar activities. Hence marketing expenditures are determined arbitrarily and viewed as a cost without an appreciable return.
The author suggests reframing the issue: asking how much the firm should invest in its relationship with its customers, and basing the determination on the value of retaining and improving the customer relationship. From the perspective of marketing, it can easier cost-justify its activates and present a rational demand for budget allocations, and from the organizational perspective, marketing can be considered to be a strategic investment rather than an arbitrary cost.
PERCEPTION OF MARKETING COSTS
In the agency model, a "line" was drawn between billings to the customer. Above the line were commission-based fees (the agency would bill the cost of placing an ad, plus a commission), and below the line were activities for which the agency would charge a fee for services rendered by the agency itself. There came with this the perception that above-the-line expenses had long-term returns whereas below-the-line were either short-term or had no direct/quantifiable benefit.
It's also noted that, for the most part, accounting rules prohibit the amortization of marketing expenses over time - hence all the creative and production costs for a five-year campaign would all be take up-front, with only the cost of buying air time expensed over the duration of the campaign.
There are also accounting irregularities for cost promotions such as coupons: product discounts were often reported as part of marketing costs (overhead), but a revenue ruling in 2001 has caused them to be treated as deductions in revenue. While the profitability of a firm is the same either way, it can have a significant impact on revenue reporting, which affects the financial ratios by which a company is tracked by investors.
WHY INVEST IN MARKETING?
Companies generally perceive the need for marketing to promote new products and to drum up sales from time to time - but it's common to assume that a company that is doing well does not "need" to do any marketing. The premise supporting this notion is that sales perpetuate at a given level without any action on the part of the firm.
The author seeks to distinguish "investing" from merely "spending" in that investment is an expense undertaken to obtain long-term growth, whereas spending is a short-term necessity that has no payoff over the long run, implying that marketing is considered to be in the latter category.
(EN: the author overlooks a fairly obvious analogy that can be effective in justifying marketing: maintenance costs. Executives are comfortable with the notion that some amount of funds must be laid out to maintain operational capabilities, or they will degrade and eventually break down entirely. This notion is also transferrable to marketing, especially in a company that understands the basics of relationship marketing: if nothing is spent, the relationship with the customer will degrade, and sales will decline.)
Another problem is that the revenues from marketing are indirect: the action of placing an advertisement has no direct impact on revenues - which come from separate actions undertaken by a different party (the customer). Moreover, it relationship is also oblique: one cannot ramp up revenue merely by ramping up advertising (double the advertisements does not result in double the income from that segment).
Of particular concern to management that is being asked to invest in marketing is: when can they expect to see a return? This is important to the cash flow of an organization, and marketing is in competition with proposals from other departments that can provide a more concrete prediction of return on investment, in terms of both amount and time.
Time is also important in terms of the value of an investment: the further in the future a return will occur, the lesser its value in terms of present-day dollars. (EN: The author describes this as the internal rate of return, but my understanding is that most companies have moved to the net present value model to avoid the common problem of cash flow inversions)
Considered from a perspective of building customer-to-brand relationships, there are four goals that can be achieved by investing in marketing:
- Acquire new customers - Whether product users who switch from another brand or new users of the product, these represent new income flows to the company
- Maintain customer loyalty - A firm must be aware that competitors are investing in gaining market share by luring present customers away, and some expenditure is necessary to defend against their efforts.
- Increase value of present customers - A firm may increase revenue per customer by increasing its share of wallet, increasing the customer's use of the product, or getting the customer to provide additional revenue for value-added features
- Migrate customers to other products - This is described as retaining the customer by ensuring they purchase another product from the company when they are inclined to cease use of their current product (the example being GM, which sought to sell customers a Buick when they were young and needed basic transportation, but migrate them to the Cadillac when they became older and wealthier and would seek a luxury vehicle)
The author suggests that considering each of these goals should enable a marketer to derive short- and long-term estimates taht better quantify the value of marketing investment.
TRADITIONAL METHODS OF MARKETING AND COMMUNICATION BUDGETING
The author reiterates that traditional approaches to marketing budgets were done based on agency models, and he refers to the dickering process (in which you ask for more than you need because the financiers are expected to arbitrarily cut any figure you name). And while there are multiple "procedures" proposed for developing marketing budgets, their primary focus is achieving an internal consensus for a lump-sum that will then be allocated to marketing programs. Specifically, the amount of marketing that is done depends on the amount of budget obtained, rather than vice-versa.
The author presents an X-Y axes diagram that divides marketing efforts into quadrants based on two parameters - conceptual versus mechanical, versus difficult or easy - then goes into a great deal of detail about where certain activities are to be placed. (EN: it's a lot of finicky detail without any apparent relevance to the topic at hand, so I'm dropping the notes.)
Traditional approaches to budgeting treat marketing as an arbitrary expense rather than an investment geared to achieve a specific goal, and are based on the cost of activities rather than the return on having done them.
BASING BUDGETS ON THE VALUE OF CUSTOMER-BRAND RELATIONSHIPS
The author's preference is developing budgets based on the projected outcomes, which not only puts marketing on par with other business operations, but also makes marketers accountable for achieving outcomes: ensuring that their activities have a positive impact to the organization.
A fairly straightforward approach is to request budget based on predicted returns, which are estimated in advance by predicting the outcome of marketing activities according to the change effected in consumer behavior. Generally, this is derived from the increase in revenue by improving market penetration by acquiring new customers, increasing the buying rate of existing consumers, increasing share-of-wallet, or migrating customers to products with a higher profit margin.
With this in mind, it should be possible to predict the outcome on sales, revenues, and margin of marketing activity according to their projected impact on the customers. (EN: the author provides examples of how to calculate the return on marketing investments - but the math seems a bit dodgy. Better to consult an accounting textbook for techniques on revenue projection.)
LIFETIME CUSTOMER VALUE AND CUSTOMER-BRAND RELATIONSHIPS
Relationship marketing focuses on the lifetime relationship to a customer, which is a long-term process - whereas budgeting is done on the shorter scale of month, quarter, and year. This makes the value of relationship marketing a tough sell in an organizational culture that has a short-term mindset.
It is an easier for a company with a long-term relationship with customers to understand this value: magazine publishers, banks and financial institutions, etc. It is also a simple concept for a company that collects extensive information about customers over a long period of time (such as airlines). Conversely, the less direct contact the company has with its customers, and the less data it is able to collect and maintain about them, the more difficult it will be for them to measure brand relationship, even if they acknowledge it.
On the surface, LTV seems very simple - it represents the value of the product the customer will buy over their lifetime (or over a long period of time in any case) as opposed to the value of an individual sale. However, it can be made more complex if you factor in share of wallet, fluctuations in consumption patterns over time, adjustments for the individual customer's market segment, the increase in the price and cost of goods over time, etc.
(EN: The math can get fairly complex if you nitpick it enough, and the level of detail and sophistication needed in calculations is largely a matter of corporate politics - a fussbudget in a position of authority can make things very difficult for all concerned.
The present value of the expected future income from a given prospect (or segment) can be used as a method of justifying the investment in obtaining that future value by making them a customer, or by gaining share-of-wallet from present customers, etc.