Spend now to benefit the future
Marketing ROI is unquestionably one of the key metrics that define success for CMO's and their teams. That makes total sense given that marketing commands the largest discretionary budget available to most companies. Yet, as our recent informal survey showed, most marketers are planning strictly within a 1 year timeframe. That doesn't make sense when thinking about return on investment.
As Peter points out in his blog, called What is the Right Time Horizon for a Marketing Plan, 85% of survey respondents say they plan strictly within a 1-year time horizon, aligned with the budget. This presents a major challenge when thinking about Marketing ROI, as the figure below illustrates:
This image shows three types of campaigns that run over multiple years - and for most marketers, multiple budgets and plans.
- The first campaign shows a customer acquisition campaign for a B2B company with a slightly longer sales cycle. Even though the campaign is fully executed in the first half of the year - and all the costs are incurred in that timeframe - all the results are recognized the following year, in a different planning cycle.
- Some types of campaign are truly long-term. Peter referenced the Nike "Just Do It" branding campaign in his blog, which spanned multiple planning cycles and may not have yielded measurable results for years.
- The final example is very typical: ongoing, evergreen campaigns like Digital marketing to get responders into the top of the funnel.
Most marketers, when discussing the ROI of that year's marketing investment, count results that clearly came from prior year investments. It's almost impossible for that not to be the case as we move from Q4 in one year to Q1 in the next. Yet the planning cycle continues to be tied to the budget cycle, making marketing ROI increasingly difficult to measure reliably.
When I see this kind of view, I am put in mind of the SaaS revenue waterfall. When a SaaS company communicates that it has entered a new fiscal year with 75% of its revenue locked in from existing contracts, and only 25% of "go-get" revenue, investors respond favorably. Why don't we treat marketing the same way? Wouldn't it be great to enter a new fiscal year knowing that you already have 75% of the pipeline that you will need? If 40% of your PR targets would be achieved in the first couple of months from work you did last year? And that your second half activities will be setting up the following year for success? Yet, many of us continue to think about Marketing results in a way that is almost necessarily unrealistic - regarding the plan and the budget in the same timeframe
Thinking Long Term Enables Sophisticated Planning
I recently did a thought-experiment that considered SaaS businesses. Marketing ROI is often measured in terms of new revenue created by - or influenced by - marketing programs. It's a compelling measure because it ties marketing activity to an objective metric.
It struck me that to really understand the ROI we're delivering, we need to think about present value of future revenues. Especially with a SaaS business. Imagine that your SaaS business has an average annual revenue per customer (ARPC) of $20,000 and a churn rate of 20%. On average, each new customer will bring you 5 years of revenue, for an LTV of $100,000. I made the following chart to estimate how many years of revenue per customer you should expect at given churn rates. Interesting how quickly your years of revenue (x-axis) metric compresses as churn rate (y-axis) goes up.
So it's very clear that if we're contemplating a marketing ROI analysis we need to have a good grasp on churn and its effect on LTV.
More than that though, when considering an ROI on marketing investments for this business, I wondered whether it made sense to consider the marketing investment I make now (the I in ROI) against the complete LTV ($100K) or the present value (PV) of the LTV. To get a clearer picture, I plotted the present value of LTV at different churn rates for a $20K business. At a 12% discount rate, the plot looks something like this:
The reason the plot isn't a straight line is that as the discount rate is compounded over the years for very low churn-rate businesses, the present value of far-out years becomes very compressed. This chart is interesting, but it's unrealistic because most businesses don't survive with huge churn rates, especially B2B businesses. So I zoomed in a little bit on the data, and considered only churn rates between 0% and 25%. Here's the plot of PV of LTV for a SaaS business with a $20K ARPC at different churn rates:
This was very interesting to me - and I realize that might be a pathology all my own. But this chart is telling us that for our SaaS business with an ARPC of $20K, the present value of a new customer could differ by close to 300% depending on whether my business has high churn or low churn.
When I thought back to the ROI question that kicked off the thought-experiment, it seems that understanding the PV of future revenues as a function of churn rate was quite important in order to fully appreciate ROI. If I don't do that - if I just measure LTV with no regard for churn rate - then I risk treating customers with a PV of $57K as equally valuable as customers with a PV of $157K, but they're wildly different in terms of real ROI. It seems that I need to understand the PV of new customer LTV if I am going to carry out a realistic ROI analysis. If I just measure LTV, I might miss a fantastic opportunity to maximize my marketing ROI and business value: reducing customer churn. If you can reduce customer churn effectively, it could have a real, positive impact on the ROI of your marketing investments for a SaaS business.
I'd love to hear your thoughts and feedback on this concept.