You hear a lot about the magic number for a marketing budget being 10% of total revenue, but the truth is more complicated than that.
How Much Can You Really Afford to Spend on Marketing?
Your marketing budget should only come after your company meets other obligations, such as payroll and utilities. Even though every small business owner would love to improve their marketing effort, that doesn’t mean you should lose track of your financial priorities. It’s probably best to think of any marketing program as a luxury, not an obligation. Ten percent is a very high target for small businesses. For many businesses especially those in highly competitive, tight-margin industries there just isn’t usually a lot of money left over for marketing. After paying back debt, taking care of normal operating bills, meeting payroll, paying taxes, and paying yourself a salary, you may be left with a very negligible budget for anything else. Any money set aside for marketing should include associated payroll costs and time spent researching, designing, implementing, and evaluating a marketing strategy.
Evaluating Your Small Business Marketing
You can measure the effective rate of return for a marketing investment by tracking your marketing budget and, over time, comparing revenue changes. To illustrate, you might spend $25,000 on new online advertising in a given year and, after one year’s time, generate an additional $30,000 in revenue. Continuing with that example, whether a $5,000 gross return satisfactory for a $25,000 ad spend would depend on several variables. For instance, that $25,000 could have been better spent in research and development or paid out as bonuses to your best salespeople. You want to have those sorts of considerations in mind whenever you’re evaluating a marketing effort. Of course, this assumes that you can effectively estimate the costs of your marketing strategy and actually assess the return on investment in an isolated, scientific way. In reality, you may struggle controlling every variable and attributing revenue to specific marketing tactics, although tools such as Google Analytics are helpful. Let’s say your business still generated $30,000 in new revenue after 12 months and $25,000 in ad spends, but you also hired a new employee, introduced two new products, removed an old product, and updated your website during the same 12 months. If you can’t chart the returns on your ad spend directly, it may be impossible to know which change brought in which new sales. The tracking tools available to modern online and mobile marketing campaigns can eliminate a lot of this uncertainty. You can often measure each click to your website or your email open rate almost instantaneously, compare them over time, and get real-time data on user engagement. You may still run into problems defining how to measure success whether you should track leads, converted leads, or total revenue per new click.
Defining Your Goals and Objectives
Once you figure out how much of your budget you can spend on marketing and how you might track it, next consider your marketing-specific goals and objectives. Think about how you want to generate revenue. You might prefer new customers who may eventually become referral sources, for example. Alternatively, you might value the simplicity of targeting existing customers and enticing them to spend more money every time they visit your store/website. Sometimes marketing dollars are best spent at new customers in brand new markets where you have never advertised before. Other times, marketing works best through an email subscriber list that is already captive or promoting to customers who just purchased your products.
Keep an Eye on Diminishing Marginal Returns
To consider another example, suppose your small business doubles its marketing budget to $2,000 per month and generates an extra $5,000 per month in revenue. On the surface, this appears to be pretty successful, but it leads to a few other important questions:
- If you doubled your marketing budget again to $4,000 per month, would you generate an extra $10,000 or even $15,000 per month?
- If you keep the new budget of $2,000 per month, will the $5,000 per month in extra revenue increase, decrease, or remain the same?
Doubling your marketing budget again to $4,000 would probably not generate revenue as efficiently as the first increase due to diminishing marginal returns. Your first $1,000 in new ad spending likely captured those who were most likely to be converted by your ads. The second $1,000 maybe captured a few of those a little less likely to be persuaded. Each dollar spent eventually targets people who are less and less likely to buy your product or services. If you think your products and services engender themselves to repeat buyers or to good word-of-mouth referrals, then it is possible that the $5,000 per month could build on itself. Without these sorts of elements present, though, it’s likely that your $2,000 ad spend will become less effective over time (for the same reason as before). The more you know about your customer base (and their customer lifetime value), the better equipped you’ll be to identify the correct marketing budget.
How Much Is Each New Capture Worth?
Customer lifetime value helps you calculate your customer acquisition costs and how much each new capture returns to your business. Knowing the average customer lifetime value for your customer base is a critical part of your marketing evaluation. Suppose that two companies each spend $120 in advertising per new customer acquired. The customers for Company A make repeated purchases every month and spend $700 each over the course of a year; customers for Company B spend $200 on their first visit but rarely return. It’s clear that Company A has the more effective marketing investment, even though both companies bring in the same number of new customers. Armed with customer lifetime value, tracking technology, and clearly defined objectives, your business should be well-equipped to find the correct marketing budget. This is a trial-and-error process with a lot of fine tuning, but the final result should be a marketing plan that continuously improves.