Marketing Math

Forecasting and Demand Measurement

• Market Demand measures

– Potential market: Every one you could sell to

– Penetrated market: Every one you are selling to (i.e. sales)

Estimating Future Market Demand – Some Methods

• Survey of buyers’ intentions– Purchase probability scale: How likely are you to

purchase…?

• Composite of sales force opinions• Expert opinion• Marketing Research (i.e. BASES)• Past-sales analysis• Econometric Methods• Market-test method

Forecasting Demand

• Chain-ratio method

Forecasting Demand• Bottom-up Method – used when you have

specific “granular” data

Example: What is the total market potential for a new algebra textbook in California high schools?

District # High SchoolsAvg # Algebra

Classes/SchoolAvg

Students/ClassTotal Books

Needed

A 9 3 25 675

B 4 5 17 340

C 5 4 22 440

⁞ ⁞ ⁞ ⁞ ⁞

TOTAL 959 4.3 21.7 89,484

Activity: Estimating Demand• Estimate the Total Market Potential for:

– Annual number of hamburgers consumed in the state of Oregon

– Users of an app that provides real-time traffic data throughout the United States

– The total yearly number of male haircuts in the state of California

– The total number of Gluten-Free food consumers in New York state

– The total demand for baseball bats in the state of Arizona

Customer Lifetime Value

• Customer Lifetime Value (CLV)– The net present value of the stream of future

profits expected over the customer’s lifetime purchases

Why Calculate CLV?

• Shows whether we are actually profiting from customer acquisition and retention in the long run

• Useful tool for comparing multiple “competing” marketing initiatives

• Establishes a maximum acquisition cost baseline (i.e. “not to exceed”)

CLV Formula – Finite Time Horizon

CLV = Σ [GCt * rt] / (1 + i)t – AC

CLV = Customer Lifetime ValueGCt = Gross Contribution from Customer at time t

(revenues – servicing and retention costs)rt = Retention Rate of customer at time t

i = interest or “discount rate”AC = Acquisition Cost

Customer Lifetime Value (finite time horizon)

Acme, Inc. uses a four-year time horizon to calculate Customer Lifetime Values of its customers.

Here are some facts related to Acme's Customer Lifetime Value model:

- It costs $400 (on average) to acquire a customer- Revenues per customer are $1,000 in year 1 and are expected to increase by 10% each year thereafter.- Variable costs to service and retain each customer are $300 in the first year and decrease by 5% each year thereafter.- Acme uses a discount rate of 7% for its CLV calculations.

CLV(finite time horizon) – Acme Inc. Example

See “Excel CLV Tutorial” video

Customer Lifetime Value (finite time horizon)

CLV Formula – Infinite Time Horizon

CLV = [(GC * r) / (1 + i - r)] – AC

CLV = Customer Lifetime ValueGC = Annual Gross Contribution from Customer

(revenues – servicing and retention costs)r = Average Retention Rate of Customer

i = interest or “discount rate”AC = Acquisition Cost

CLV (Infinite Time Horizon) - Example

Acme, Inc. is trying to determine the Lifetime Value of its customers.

Here are some facts related to Acme customers:

- A study of historical sales data reveals that the average customer brings in about $800 of sales revenues each year. - A study of historical cost data reveals that the average cost to service and retain a customer is about $200 per year. - Acme spends about $150 to acquire a new customer, on average.- Acme retains approximately 65% of its customers from one year to the next.- Acme's discount rate is 4%.

CLV = [(GC * r) / (1 + i - r)] – AC

CLV = [(800-200) *(.65)] / (1 + .04 - .65)] – 150CLV = [(600*.65)/ (.39)] – 150

CLV = 1,000 – 150 = $850

CLV “Multiple” – Infinite Time Horizon

MM = r / (1 + i - r) MM = Margin Multipler = Average Retention Rate of Customer

i = interest or “discount rate”

CLV = MM x GC

CLV = Customer Lifetime ValueMM = Margin MultipleGC = Annual Gross Contribution from Customer (revenues – servicing and

retention costs)

CLV “Multiple” (Infinite Time Horizon) - Example

• Calculate the margin multiple for a company that has a 5% discount rate and a 80% retention rate.

MM = r / (1 + i - r) MM = .80 / (1 + .05 - .80) = 3.2

• Calculate the CLV assuming the company’s annual gross contribution per customer is $700.

CLV = MM x GCCLV = 3.2 x $700 = $2,240

Customer Lifetime Value - Multiples

Contribution Analysis / ROMI

• Contribution Analysis• Return on Marketing Investment (ROMI)

• Both used to measure the “worth” of marketing initiatives (i.e. how much they “contribute” to company profits)

• Provides guidance on whether to proceed with (i.e. “greenlight”) the initiative

• Can be calculated prospectively (future projection) or historically (based on actual data)

Contribution Analysis

Contribution = (Incremental Sales Volume) x (Sales Price) x (Contribution Margin %) – Incremental Marketing Initiative Costs

Contribution = ISV x SP x CM% - IMIC

CM% = The % of sales revenue retained as profit after accounting for variable costs.

Incremental means “additional”, traceable to the initiative

Contribution Analysis - ExampleContribution = (Incremental Sales Volume) x (Sales Price) x (Contribution Margin

%) – Incremental Marketing Initiative Costs

Contribution = ISV x SP x CM% - IMIC

Starbucks launches a social media campaign to promote its new (mythical) “Le Mix” line of coffee-tea mixture beverages. Starbucks expects the campaign to generate 750,000 units in incremental sales in its first year at a campaign cost of $1 million. Sales price per beverage is $3.75 and the contribution margin % for the drink is 60%.

Determine the annual contribution expected from the Le Mix social media campaign.

Contribution = ISV x SP x CM% - IMIC = 750,000 x $3.75 x 60% - $1,000,000 = $687,500

Return on Marketing Investment

ROMI % = (Contribution / Incremental Marketing Initiative Costs) x 100%

ROMI % = [(Incremental Sales Volume) x (Sales Price) x (Contribution Margin %) – Incremental Marketing Initiative Costs] / (Incremental Marketing Initiative Costs)] x 100%

ROMI % = [(ISV x SP x CM% - IMIC) / (IMIC) ] x 100%

ROMI % = [(Contribution) / (IMIC) ] x 100%

Return on Marketing Investment - Example

ROMI % = (Contribution / Incremental Marketing Initiative Costs) x 100%

ROMI % = [(Incremental Sales Volume) x (Sales Price) x (Contribution Margin %) – Incremental Marketing Initiative Costs] / (Incremental Marketing Initiative Costs)] x 100%

Starbucks launches a social media campaign to promote its new (mythical) “Le Mix” line of coffee-tea mixture beverages. Starbucks expects the campaign to generate 750,000 units in incremental sales in its first year at a campaign cost of $1 million. Sales price per beverage is $3.75 and the contribution margin % for the drink is 60%.

Determine Starbuck’s ROMI % for the Le Mix social media campaign.

Contribution = ISV x SP x CM% - IMIC = 750,000 x $3.75 x 60% - $1,000,000 = $687,500

ROMI % = [ Contribution / IMIC ] x 100% = $687,500 / $1,000,000 = 69% (rounded)

Cannibalization Considerations

Cannibalization Considerations

• Cannibalization: When a company’s new products depress or “steal” the sales of its older products

• Many Contribution and ROMI calculations neglect to account for cannibalization

• Revised formulas to account for cannibalization are typically more accurate depictions of future reality

Contribution Analysis – with Cannibalization Factor

Contribution = [(Incremental Sales Volume) x (Sales Price) x (Contribution Margin %) – (Incremental Marketing Initiative Costs)] – [(Cannibalized Sales Volume) x (Cannibalized Sales Price) x (Cannibalized Contribution Margin %)] + (Decrease in Marketing Initiative Costs for Cannibalized Brand(s))

Contribution = [(ISV x SP x CM%) – IMIC] – [(CSV x CSP x CCM%)] + ∆CMIC

CM% = The % of sales revenue retained as profit after accounting for variable costs.

Incremental means “additional”, traceable to the initiative

Contribution Analysis - ExampleContribution = [(Incremental Sales Volume) x (Sales Price) x (Contribution Margin %) –

Incremental Marketing Initiative Costs] – [(Cannibalized Sales Volume) x (Cannibalized Sales Price) x (Cannibalized Contribution Margin %)] + Decrease in Marketing Initiative Costs for Cannibalized Brand(s)

Contribution = [(ISV x SP x CM%) – IMIC] – [(CSV x CSP x CCM%)] + ∆CMIC

Starbucks launches a social media campaign to promote its new (mythical) “Le Mix” line of coffee-tea mixture beverages. Starbucks expects the campaign to generate 750,000 units in incremental sales in its first year at a campaign cost of $1 million. Sales price per beverage is $3.75 and the contribution margin % for the drink is 60%. The Le Mix launch is expected to cannibalize 500,000 units of tea beverages currently being sold at a price of $3.50 and having a contribution margin % of 55%. Marketing initiative costs for the cannibalized tea products are expected to drop by approximately $400,000.

Determine the annual contribution expected from the Le Mix social media campaign after accounting for cannibalization of tea products.

Contribution = [(ISV x SP x CM%) – IMIC] – [(CSV x CSP x CCM%)] + ∆CMIC = [(750,000 x $3.75 x 60%) - $1,000,000] – [(500,000 x $3.50 x 55%)] + $400,000 = $125,000

(is this high enough contribution to justify the campaign/launch?)