Category: Advanced Analytics

There’s a scary Giant hiding in your closet. It imposes hidden costs that, when accounted for, transform your claim that advertising is adding business profits. Short-term, long-term. The scary Giant changes your OMG! to omg? There’s an incredible return from investing time and love in identifying your Giant costs. Ex: Identifying non-working media costs, by calculating them for the core and sub-components. There is only one other thing more important in Advertising (incrementality). [Note:Newsletter Premium Subscribers: If you can’t locate TMAI #437: Compute Non-Working Media Costs and TMAI #411: Proving Marketing’s Incrementality, just hit reply.] This got me thinking about how frequently we throw around the key performance indicator (KPI), Return on Investment (ROI) – without being careful how they are computed or transparent about what they include or exclude. We simply claim: Our Performance Agency is delivering an ROI of 4! The claim’s implication: For every $1 our Agency spends on Ads, they are delivering $4 back. HURRAY!! So today… Let’s interrogate that 4. What is it? Can it be trusted to reward your Agency? A question to answer by the end: Does your Agency impact survive calculating ROI 4? This blog post was originally published as Premium edition #438 of my newsletter. Weekly, I share actionable insights and hidden patterns to stay at the bleeding edge of Marketing, Analytics, and AI. Sign up for TMAI Premium. 100% revenues are donated to charity. With the Real ROI, Please Stand Up? So, what’s ROI? The most common computation: ROI = [(Revenue – Media Costs)/(Media Costs)] Media Costs are typically the Dollars/Renminbi you paid to run ads – on Facebook, Magazines, CTV, Radio, Bing. Sometimes referred to as Advertising Costs. Revenue is the traceable sum of $$$ earned from running the aforementioned ads. ROI is often expressed at a campaign level – though you can obviously decompose it by an individual ad, a channel, a group of tactics, and on and on. [Premum Subscribers: This is when the Multi-touch Attribution methodology becomes super important – plese refer to TMAI #434.] I was reviewing a Client’s QBR for a recent Campaign and sure enough they’d computed ROI: [Privacy Note: Numbers are real, the visualization is mine. Any mistakes you catch are mine.] ROI = 4!! [Note: I’m not going to cover the commonly bandied about ROAS – Return on Ad Spend. While a close cousin of ROI, I consider ROAS to be emotionally sketchy.] The Agency did not know the Campaign’s overall budget, not unusual, as Agencies rarely do (though you should share with them). I’ve added that number to the table above. An ROI of 4 looks incredible, no? I offer that the 4 is unreal. It meets the classic definition of fake news. To sell the shoes / car parts / laptops / eyeglasses / Bluetooth adapters, you had to design them, manufacture them, ship them, store them, and wait for the order to come. Of all those costs, at the very minimum, you cannot ignore the cost to manufacture them. You sell a pair of eyeglasses for $50, you need to account for the $35 Cost to manufacture them. $35 is known as Cost of Goods Sold (COGS). Hence, this is a more real news formula of ROI: ROI 2 = [(Revenue – COGS – Media Costs)/(Media Costs)]OR ROI 2 = [(Gross Profit – Media Costs)/(Media Costs)] I call ROI 2: “Gross Profit ROI.” For the client above, this is a more real ROI the Agency delivered: For this company, the COGS was 70% of the sale price (expressed as Gross Margin above). After counting that, the amount the company made was $0.9 million, and not $3.2 million. The new, more real, ROI driven by advertising is 0.5. While heartbreaking, please learn to embrace the 0.5 – or you will never know how to be better. Wait, wait, there’s more. Remember, the total budget spent by the Marketing team was $1 million. It is not the $0.6 million being used in both the formulas above. The delta, $0.4 million, were non-working media costs. [Premium Subscribers: See TMAI Premium #437 for how.] IMPORTANT: Your Agency spent $0.6 mil, their calculation is right for what they know. You spent $1 mil, it is your job to account for this money. You must account for the Total Campaign Spend, by using this formula to compute ROI: ROI 3 = [(Revenue – Non-working Costs – COGS – Campaign Budget)/(Campaign Budget)]OR ROI 3 = [(Net Profit – Media Costs)/(Campaign Budget)] This helps us land even closer to the real ROI that your team (not Agency) delivered to the company: The Net Profit ROI 3? Minus 0.1. Your advertising campaign lost money. A shocking realization when you reported ROI as 4 to your CMO. No? We are not done getting to the business value of this campaign. There’s one more thing to get to the realest ROI from advertising. What would have happened if you did not execute this campaign?Would you have lost the entire $3.2 million in Revenue, if you had not spent the $1 million on advertising? Incrementality. Incrementality! We who are active practitioners of the art and science of incrementality know that you would have made a bunch of the $3.2 million even if you did not execute the campaign. I know, I know, it hurts our feelings as Marketers, but sadly, it is reality. Nearly all the sales that come into your company have nothing to do with Marketing! Let’s do one more computation of ROI, this time accounting for incrementality. In this case, the Agency did not practice incrementality for this Client, hence, for today, I’m going to assume it is a super high 30%. What does that number mean? 70% of the Claimed Sales by this campaign, would have occurred any way (store location, product features, seasonality, innovation, reviews on Amazon, whatever else). Here’s the final, closest to real, formula for ROI: ROI 4 = [(iRevenue – iNon-working Costs – iCOGS – Campaign Budget)/(Campaign Budget)]OR ROI 4 = [(Incremental Net Profit – Media Costs)/(Campaign Budget)] That yields the following Incremental Net Profit ROI (4) results: We really lost money. The Campaign’s incremental Net Profit ROI (iROI) is -0.7. A very different picture than the 4 the Agency presented at the start with ROI 1. Difficult Questions: What do you and your Agency compute today? ROI 3 at least? Perhaps, ROI 4?Does our journey today explain why the Marketing budget keeps getting cut by the CFO, despite Marketing’s protests that they are delivering 4x return on investment? Special Note | Brand Marketing ROI. The ROI computations above span a four to six month impact horizon. For brand marketing campaigns, the impact horizon, will stretch beyond six months. For such campaigns, we compute short-term ROI #4 using different KPIs (# People Lifted, Cost Per Individual Lifted – both vs. baselines), and different methodologies (true test-control surveys, not pre-post). And, we will hold Brand Marketing to account for delivering long-term profitability! For that, we will measure long-term ROI #4 with the same KPIs (incremental Profit), but different methodologies (longer impact horizon like advanced attribution modeling, ML-based mix models, and CausalAI). Radically improving Marketing’s ROI. Good Marketing can absolutely deliver a magnificent Return on Investment. But how? For my clients, I take a repeatedly tested in the real world four-step approach to deliver radically better ROI. I did a deep dive into each step, and actions you should take, in Premium edition #440. Here’s the summary: Step 1. The Marketing Team: Obsess about excessive non-working media costs. Step 2: The Agency: Obsess about highly incremental tactics. Step 3: The Commerce Team: Why is the Conversion Rate so low? Step 4: The Engineering Team: Product costs and process innovation The glorious profit-generating outcome my approach above looks like… You can replicate it in your company… [Higher resolution: Right Click, Open in a New Tab.] TMAI Premium subscriber? Please email me for the excel spreadsheet, and the deep dive details of the four step process above. Bottom line. Marketing tends to be the first budget to be cut in tough times. Two reasons: 1. No one at the top of the company quite believes any claim the CMO offers re impact of Marketing (see above). 2. Marketing competes with Engineering, Retail Stores, Customer Service, HR, Factories, Finance for budget – the short-term ROI from all of them is easier to see (and believe). This is our (Marketing’s) problem to understand, and fix. Here are your standards: ROI #3 is the minimum standard that’ll survive Board or CFO scrutiny. ROI #4 will ensure Marketing is among the last budgets to be cut. Carpe diem!

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