For some strange reason, many businesses and marketers are operating blind….. meaning they have no idea what’s really going on in their business and those of their clients.
[clickToTweet tweet=”Nine out of ten (90%) global marketers are not trained to calculate return on investment (ROI).” quote=”Nine out of ten (90%) global marketers are not trained to calculate return on investment (ROI), and 80% struggle with being able to properly demonstrate to their management the business effectiveness of their spending, campaigns and activities, according to new research.”]
In fact Nine out of ten (90%) global marketers are not trained to calculate return on investment (ROI), and 80% struggle with being able to properly demonstrate to their management the business effectiveness of their spending, campaigns and activities, according to new research.
The truth however is that knowing your businesses numbers (in particular those that relate to what it costs you to get new business and how long it takes to see a return) is what will allow you to make decisions based on data.
The sad fact is that many businesses go bust every year that wouldn’t have if they’d been aware of these numbers.
So on that note let’s begin.
Return on Investment is one of the most important metrics for business owners to be aware of. After all, we need to know how the effort and dollars we’re putting into our marketing campaigns is affecting our bottom line.
There is common debate about whether business owners should use sales revenue or gross profit (also called gross margin) as the structure for calculating their ROI. Traditionally, ROI can be calculated as:
(Revenue – Investment)
However, using sales revenue overstates our ROI since we are not taking into account our cost of goods sold (COGS). So for our marketing ROI metric, we will use gross profit. Gross profit is your company’s revenue minus its cost of goods sold (COGS). This is different than operating profit, which takes into account overhead and payroll, and is your earnings before interest and taxes.
First let’s talk about vanilla ROI. ROI is calculated as:
(Profit – Investment)
So, marketing ROI is:
(Gross Profit – Marketing Investment)
Marketing Expense to Revenue
Marketing Expense to Revenue is a similar metric to Marketing ROI, but provides a different perspective. For this metric, we are going to focus on total marketing expenses, including salaries of the marketing employees. This metric shows you how much you’re spending on marketing compared to how much revenue is generated by the company. This metric is for a Marketing Manager or Director’s perspective to see the overall allocation of their department in respect to overall revenue generated.
Marketing Expense to Revenue is calculated as follows:
Total $ Marketing Cost
$ Revenue Generated
Customer Acquisition Cost (CAC)
This metric is also known as Cost of Customer Acquisition (CoCA). There are a variety of ways to calculate CAC. It is best to split up CAC by channel, so you can clearly see the direct costs of acquiring a customer from each of the channels your company focuses on.
Total Sales and Marketing Cost
Number of New Customers
This metric could be over any time period — a month, a quarter, or a year. Total Sales and Marketing cost is all the program and advertising spend, plus salaries, plus commissions and bonuses, plus overhead.
CAC is an important metric to have. It serves as a base for the next two metrics we will cover that are critical for a business to know: Time to Pay Back CAC and LTV:CAC.
Time to Pay Back CAC
Time to Pay Back CAC is a metric that tells you the number of months it takes your company to earn back the CAC you spent to get a new customer.
In businesses where customers pay one time upfront, this metric is not necessary as it should be 0, i.e. the customer’s upfront payment is greater than CAC. Otherwise you are losing money on every customer.
However, in businesses where customers pay a monthly or annual fee, it is best to aim for Payback Time to be under 12 months. This means that if you break even on a customer after 12 months, from then on you start making money from the customer.
Here’s how to calculate Time to Pay Back CAC:
Customer Acquisition Cost (CAC)
(Revenue Per Month for Avg. Customer – Expenses Per Month for Avg. Customer)
This metric will give you the number of months to payback. Expenses Per Month for the Average Customer is how much money you spend directly servicing that customer: COGS + services like training and support.
LTV:CAC is another important metric to calculate for your business.
Calculating LTV (Life Time Value):
Average $ Sales from Active Customers Per Year / Average # Years as Active Customer
Calculating LTV:CAC is as simple as it sounds:
Life Time Value (LTV)
Customer Acquisition Cost (CAC)
The meaning behind it, however, can mean life or death for your business in the long-term. 3X CAC is viable for most SaaS, or other forms of recurring revenue, businesses. Most public companies like Salesforce.com, NetSuite, etc. have multiples that are more like 5X CAC.
Average Lead Close Rate
Average Lead Close Rate evaluates the health of your funnel, all the way from the top to the bottom. No business has a perfect funnel, and it’s important to look at your funnel on a consistent basis to encourage activities that will nudge it in the right direction.
For a given month, calculating Average Lead Close Rate is:
New Customers That Month
Leads in a Given Month
If your Average Lead Close Rate is low, how good are you at qualifying your leads? Is your sales team wasting time calling leads that are unqualified? If it’s high, great! Your leads are highly qualified and being converted into customers. If your grow your database at the same rate and with the same quality of leads, it should turn into more customers. With a high Average Lead Close Rate, your marketing team should be focusing on increasing the number of leads coming in from the top of the funnel.
For companies with a long sales cycle (6+ months), this metric can become unreliable. This is due to the fact that if you were generating 100 leads per month a year ago and 10 of those leads closed today, but today you’re receiving 1000 leads per month, the close rate looks like 1%, but it’s really closer to 10%.
Net Promoter Score (NPS)
What is Net Promoter Score? I’m glad you asked. NPS is a customer loyalty metric developed by Fred Reichheld, commonly used in customer satisfaction research. Many organizations, including HubSpot, use Net Promoter Score to assess the happiness of their customers.
We send an NPS survey to a group of randomly selected customers every quarter to benchmark our relationship with our customers. In its simplest form, an NPS survey simply asks: How likely is it that you would recommend [Our Company] to a friend or colleague?
The responses are divided as follows: Customers who answer 0-6 are “Detractors”, 7-8 are “Passives,” and 9-10 are “Promoters.” The goal is to maximize the number of customers who are Promoters in our company.
Armed with these numbers, NPS is simply calculated as:
% of Promoters – % of Detractors
At HubSpot, when surveying our customers about their promoter score, we also have an open-ended question for them to explain their thoughts. We have a “Reason for Response” field to get a qualitative reasoning from our customers for their score, which can often provide actionable feedback for our team to make improvements.
There are several criticisms about Net Promoter Score being used as a customer loyalty metric. Most criticisms revolve around it being used as a be-all metric for customer satisfaction and loyalty. In my opinion, NPS is used as a snapshot into your customers’ thoughts about your company, and the products or services it provides. It should not be the sole metric that your entire company revolves around to determine your customers’ opinions of your business, but is a great way to assess how you’re faring if you monitor the metric continually.