Answers To The Top Ten Questions We have Been Asked On ROI…

Survey after survey has shown that Marketing ROI is at the top of everyone’s list of the most important issues facing marketers today. In this paper, we explore why ROI is so topical and what marketers need to know about measuring the financial impact of marketing.

1. Why is Marketing ROI such a hot topic right now? Is ROI just another fad or a step in marketing’s evolution as a discipline?

ROMI is hot right now because marketing itself is hot. Companies that have ridden the cost cutting train to the end of the line, have no other strategy to turn to other than improving revenue. Marketing is the only function capable of improving the top line. This usually means more marketing spending. Since marketing is already the single largest expense for most companies, simply adding more marketing cost without showing how it translates into bottom line improvements is unrealistic. It also puts marketing at a disadvantage to other functions that can make those translations.

Even absent the pressure to increase spending, it is becoming more critical to improve the performance of existing marketing investments. “Softer Investments” such as advertising, PR, events and sponsorships that traditionally have proven more resistant to rigorous measurement, are particularly under pressure to prove their efficiency and effectiveness. Media costs have grown at nearly four times the rate of inflation during the last 10 years. CRM, Direct mail, and interactive marketing are all growing, largely at the expense of traditional media approaches due to a perception that they are more cost effective and accountable for bottom line results.

Traditional media formats are, naturally, fighting back by finding ways to put less accountable marketing efforts on a par with those that are more accountable such as direct marketing and interactive. The ARF, ANA and AAAA all have Marketing ROI at the top or near the top of their agendas of issues.

An additional sign that marketers are under pressure to demonstrate ROI is the increasing churn experienced at the CMO level. A recent Spencer Stuart study average tenure for CMOs at the top 100 branded companies in North America is just 23.6 months. Compare this to CEOs, who are in their positions, on average, for 50.6 months. Based on our data, only 14 percent of CMOs for the world’s top brands have been with their companies for more than three years — and nearly half are new to the job over the last 12 months.

April 20, 2007 (AdAge.com) -- Marc LeFar, who shepherded the $1 billion-plus marketing budget of the former Cingular Wireless for the past four years, has resigned from AT&T.

It is a safe bet that these pressures are not going to diminish in the foreseeable future; consequently, the desire to adopt rigorous ROMI methodologies is not likely to be just a fad, but rather a genuine shift in the evolution and practice of marketing. In fact, a recent study sponsored by the ANA where 70% of 222 marketing executives said, “ROI represents a long-term change in how they do business’.

2. Why has it proven so difficult to measure marketing ROI? What makes it different from other disciplines like quality, cycle time, supply chain management or R&D?

Unlike investments in quality, distribution efficiency, improved cycle time, etc. that have direct links to the bottom line, the relationship between marketing investments and financial performance is more elusive. First, there are many factors that influence sales revenue and profitability, many of which have little to do with marketing. Even when it is clear that marketing is that variable that has made the difference, that knowledge alone is nearly useless without an understanding of what worked and what to do differently. Unless the contribution of each part of the marketing effort can be related to the overall impact, it is difficult to make adjustments.

A further complication is that Marketing’s impact tends to lag the investment. For example, the impact of advertising, PR and loyalty programs are expected to be evident over time as well as in the short-term. This is especially true of long purchase cycle categories such as durables and high technology. Because this lag is not well understood, marketing continues to be considered an “expense” for accounting purposes, despite common sense and evidence to the contrary. (An MSI study using cross sectional time series regression analysis over 8 years for 2,552 firms showed that advertising acts as an asset by contributing to a firm’s financial performance for up to three years.)

A final complication lies in the difficulty of applying learning about the impact of marketing on results to predict the financial impact of future marketing investments. Unlike other investments that tend to have finite price tags, marketing investments are infinitely scalable. It is far easier to calculate the return on investment for a piece of machinery, an R&D project, and a new distribution channel where the costs are relatively fixed. In contrast, the same marketing program can cost $1.0 million or $10.0 million or $100.0 million depending on how aggressively it is pursued. The ROI at each of these levels and all the points in between would need to be calculated, a much more complex undertaking.

In a recent Reveries survey of more than 200 marketing executives, 19% said that the financial services category is the most difficult to measure, followed by entertainment (18%), packaged goods (14%), pharmaceuticals and apparel (9% each) and consumer electronics. In other words, all of them!

3. Given these problems, is it even possible to prove the benefit of brand building activities through financial analysis?

If it’s not, there isn’t much of a future for brand building activities! The purpose of marketing is to create competitive advantage by creating value in the mind of the customer. For most companies, this can and has been measured through market share, operating margins and sales as well as more direct customer-based measures of “brand equity”. If they know what was spent to create that advantage, then in theory a return can be calculated, at least at a relatively high level.

Fortunately marketing’s value is not the issue. The purpose of ROI analysis is less about proving whether brand building activities are worthwhile and more about ensuring that marketing investments are being made as prudently as possible to maximize customer loyalty and profitability. The difficulty is that at least so far no one has found the magic bullet for relating changes in brand equity to changes in revenue for the brand.

For many companies, Lord Leverhulme’s lament “Half the money I spend on advertising wasted. The trouble is I don’t know which half” is as true today as it was in 100 years ago, but not for lack of trying. The problem has been lack of clarity around what constitutes marketing’s impact. With no real consensus on this point, each company has had decide for itself what are the relevant outcomes, proxies and hard measures.

Tim Ambler, in his book “Marketing and the Bottom Line” demonstrated that even within companies there is often a contradiction between what is measured and what is considered important to measure.

Indeed, until recently, it wasn’t thought that there could even be universal standards that worked across companies. Leading brand strategy and IMC thinkers such as David Aaker, Kevin Keller and Don Schultz have all advocated unique approaches to measuring brand equity tailored to each company’s needs. Individual ad agencies have contributed to the fray by advocating their own proprietary solutions and approaches such as Y&R’s Brand Asset Valuator.

Another significant obstacle is that marketing budget recommendations and allocation decisions are often driven by marcom managers who have not traditionally been expected to have rigorous financial or statistical training. These managers also tend to be less well-versed in strategic processes that have permeated other areas of the organization such as Six Sigma, Strategy Maps, Balanced Scorecards and the like. So while concepts of net present value, risk hurdle rates and ROI have always been available to marketers, few have had the skills or patience to adapt them for marketing. This too, is changing.

4. What are the emerging industry standards for measurement of ROI? Are we beginning to see agreement?

The dialog around ROI has only begun to solidify into a body of knowledge in the past two to three years. A handful of marketers such as working at the most sophisticated marketing companies such as James Lenskold, Guy Powell and Tim Ambler have led the way in putting forward what may eventually become a common understanding for discussing the purposes of marketing and the language of ROMI in the same way that Kaplan & Norton’s Balanced Scorecard has provided a common language for strategic planning.

While there are differences between what these thought leaders are saying, there are several principles upon which they all agree. For starters, they agree that ROMI should be approached using the same formula as ROI for other investments, namely,

ROI = (Gross Margin – Marketing Investment)/ Marketing Investment.

Guy Powell in his book, “Return on Marketing Investment”, defines ROMI as “the revenue (or margin) generated by a marketing program divided by the cost of that program at a given risk level. If a relatively low risk-marketing program costs $1M and generates $5M in new revenue, that program has a ROMI of 5.0.

Other points of agreement beyond this basic definition include:

• Gross margin should be discounted to reflect the NPV of the profit.
• Gross margin should reflect only the incremental profit associated with the program.
• ROMI projections should be used not just after the fact but prior to making investment decisions. This also requires factoring in a “threshold” or hurdle rate to reflect the risk associated with the investment.
• ROI measures should be applied both at the individual program level and at more aggregated levels.

Beyond these basics, it gets complicated very quickly. Decisions must be made about what is included and not included in the gross margin, how to measure incremental profit (immediate profit? customer lifetime value?), what cash discount factors to apply, how to allocate expenses, and more. Most of the answers to these questions will vary by company.

Then there is the whole issue of the reliability of future projections of profits. Unless a company has accurate historical data from modeling or controlled experimentation, knowing the likely impact of a program on customer acquisition, retention, sales and profits can be a real sticking point to development of a comprehensive ROI driven approach to making marketing decisions

5. Given its complexity, how many companies are really committed to full implementation of state of the art concepts of ROI?

We are still in the very earliest stages of ROI measurement and practice. The most basic ROMI approaches start at a more ad hoc program level and advance to a fully integrated picture of how various marketing programs and activities work together to influence profitability. Most companies are just starting to get a grip on it. In a recent Reveries study (2003), 72% of the 200 marketing executives surveyed indicated that they lack the necessary data to assess the return on their marketing investments. Sixteen percent said that they rely on sales data alone, while another 22% said they use some form of research such as focus groups, syndicated sales data analysis, brand awareness studies or competitive benchmarking.

A handful of companies are operating at the highest level of sophistication. Although AT&T, P&G, Kraft, Nestle, J&J and others claim to have made extraordinary strides in understanding the financial impact of their marketing programs. According to an Ad Age article, P&G changed how it spent more than one tenth of its $4.3 billion global marketing budget based on marketing mix modeling. Yet even these corporate pioneers believe there is still more work ahead.

An excellent article by Patrick LaPointe at www.marketingnpv.com called The Ladder of Insights suggests that there are five levels, beginning with sales tracking, test markets and market research (1), progressing to program level ROI (2) and resource allocation optimization (3). As the previous quote suggests, quite a few companies have made progress to level 3. At this level, application is focused on getting the mix right, determining how much of the budget should be allocated to ethnic programs vs. more mainstream marketing, interactive and direct mail vs. “softer” marketing approaches designed to build emotional bridges to customers.

Marketing mix modeling and optimization are becoming more widespread at both agencies and clients. For instance, Mullen, an Interpublic Agency in Massachusetts has developed a proprietary tool for predicting the individual and combined impact of various traditional and nontraditional media mix alternatives.

Beyond this point, the air gets a bit rarer. While the first three levels are still somewhat “granular” in that the goal is to evaluate the relative ROI performance of different marketing elements. In contrast, Levels 4 and 5 are more focused on the Total ROI efficiency of the marketing budget as a whole.

Level 4 is characterized by “a consistent approach that provides reliable correlations between market metrics and financial value” with careful attention to the reliability of those projections and consequent risk-adjustments when assessing past and potential projects. Level 5 goes even beyond this high standard by planning and measuring all marketing activities in an integrated framework that incorporates short run and long term return. This approach links into other corporate strategy effectiveness metrics such as the Balanced Scorecard or the more financially driven Economic Value Added measures (EVA). At this level, management compensation is tied to the delivery of goals.

6. What kind of data, personnel, software and skills are required to implement a comprehensive ROI driven approach to improving marketing efficiency? What is the “ROI” on that kind of investment?

Even this preliminary and basic discussion should make clear that development of ROI measures is not something that can be developed lightly or in one’s spare time. It requires substantial commitment to data gathering and analysis. Most practitioners of sophisticated ROMI business practices employ consultants or internal staff familiar with modeling techniques and finance. Unless a company has extensive data gathering and analytics capability, getting started will require a substantial upfront investment and some new skill sets. It requires top management commitment, and a long horizon.

The data suggests that the results are well-worth the effort.

• In his book, The Loyalty Effect, Frederick Reichheld famously sparked the growth of the entire CRM industry with the observation that “companies can boost profits by almost 100% by retaining just 5% more of their customers”.
• The American Productivity and Quality Center (APQC) in conjunction with the ARF published a best practices report, Maximizing Marketing ROI, which showed that companies gain a competitive advantage and increased profitability through the application of marketing ROI measurements and modeling.
• As noted above, P&G used marketing mix modeling last year to change how it spent more than 10% of its reported global outlay.
• Clorox used marketing mix modeling to justify shifting funds from advertising to promotion for Kingsford charcoal and Clorox bleach, moves that reportedly saved Clorox an estimated $65 million on wasteful trade promotions.

Aside from quantifiable results, having a language, a process and scorecard of metrics for managing ROMI can have a strong pay off in elevating the dialog and aligning decisions about what investments will have the greatest impact on revenue and financial performance over time. Using an ROI based approach to marketing decisions can help bridge the disconnect that often exists between marketer and other business professionals. While marketing professionals have tended to speak in terms of brand equity, impressions, clicks, GRP’S and CPM’s, everyone can now share a language of revenue, customer employee loyalty, shareholder value and profitability.

More important, solid metrics and processes allow businesses to confidently make fact based decisions on what are the right levels of investment and how those investments should be allocated across marketing programs to achieve their objectives. After all it has been famously observed, “what is measured is managed”. With ROI based approaches to marketing, the focus is on measuring and managing what is strategically important to the company.

7. How do I determine what are the right measures and approach for my company? Where should I concentrate, at the campaign, customer or corporate level?

The first step is to determine the appropriate unit to measure. In the past this was defined as the “product brand”, but increasingly, this has become the company because few “products” are marketed as stand alone brands anymore. In fact, it can be argued that today, all brands are “service brands” because the economies endorser brands have led to families of products and services all built upon a common brand experience platform.

The second step is to categorize measures according to the degree to which they are describe marketing activity, an impact or an end result of marketing. This is not always easy, as some end results contribute to higher levels of results. For example, is brand awareness a contributor or a result of marketing effectiveness?

In fact there are roughly 3 tiers of activity, activities, impacts and value. James Lenskold describes the hierarchy this way, (from James Lenskold, Marketing ROI: Playing to Win,” Marketing Management, Vol II, Number 3, May/June 2002)

While this model is especially useful in thinking about the lower tiers, it may not go far enough in elaborating the value of marketing at the top levels. The focus on profitability is important but should not be used exclusively. Also important are such measures as the impact the value of the corporate franchise, stock market performance and other more “latent” brand strength indicators.

8. What types of analyses are required to understand the relationships between different metrics?

Just gathering the information is a worthwhile first step, but the data is most useful when relationships between the tiers can be identified and even quantified. This step will require development of models or even controlled experiments.

Marketing mix analytics is use for for relating marketing activities to impact. These analytic techniques have been around for decades, but their use has only recently become more widespread. According to Ad Age (3/29/04), P&G used marketing mix modeling last year to change how it spent more than $00 million of its marketing budget or nearly a tenth of its $4.3 Billion reported global outlaw. Clorox this year used modeling to justify shifting millions from advertising to promotion. Controlled market experimentation has also gained more of a foothold with the advent of new tools and technologies for micromarketing and in-store experimentation.

Likewise the relationship between marketing programs and customer equity can also be explored over time through modeling. CVA measurement, longitudinal tracking other measures can be related to consumer satisfaction and loyalty. The key to the success of these efforts is to use the attitudinal data to predict changes in behavior rather than simply treat them as ends in themselves.

Lastly, the relationship between the cumulative impact of marketing programs over time and franchise value has been successfully explored by such brand valuation techniques as Y&R’s BAM, Interbrands Brand Valuator, CoreBrand’s and Equitrends.

Note that as one moves up the hierarchy, the time frame for understanding the relationships between levels lengthens. The time frame for understanding causality between elements of a marketing program and its overall impact may be as short as a few months while that of understanding the relationship between customer equity and franchise value may require the perspective of several years or even decades. It is important to understand the relevant time frames for estimating impacts as many programs can be expected to have lagged effects.

In developing measures, it is important to recognize that it is better to have a few meaningful measures than a lot of less meaningful ones. Proliferation of new measures rarely leads to better insights. Kaplan and Norton, note that companies rarely suffer by having too few measures; more commonly they keep adding measures whenever an employee or a consultant makes a worthwhile suggestion.

In getting started, focus on a few of what are believed to be some of the main marketing drivers of your business that you have ready data to measure. These may be sales staffing, conversion rates, customer service indices, or communications measures such as web site hits. Make a distinction between what are the inputs or predictors and the outcomes. Over time, track the relationships between these factors. To determine the relationships between them. Then use those relationships to drive future programs.

We have a deep commitment to a brand strategy and an integrated approach to marketing communications. What is the relation between brand strategy and ROI? Brand strategy is an expression of how the company will create value for the customers. Brand strategies manifest themselves in product innovations, graphic design, store layout, customer service policies, and many other components of the “brand experience”. By aligning customer-facing activity around this idea, a company can prioritize its efforts and make more effective decisions across all of its business functions, including but not limited to marketing.

By definition, having a brand strategy in place is fundamental to realizing marketing ROI. However, a brand strategy does not necessarily imply specific measures or programs. Its efficacy can only be inferred by the efficacy of its implementation across a variety of programs and efforts.

Integrated Marketing Communications is the way that companies coordinate the communications aspects of a brand strategy for greater efficiency. IMC is also a strategy, an idea around which decisions can be prioritized and aligned. A plan for an IMC program outlines the specific methods by which this idea or strategy will be implemented. Once specific plans are articulated, it is appropriate and even imperative to develop corresponding metrics for measuring their impact, at the activity level if possible, and certainly at the program level.

Unfortunately, the concept of ROI has become intertwined with IMC to such an extent that it is difficult to separate the two the extent that discussing the ROI of IMC has become nearly synonymous with discussing ROMI. In fact, the responsibility for measuring ROI should be separate from IMC, and considered from the brand level.

9. Who should be responsible for making Marketing more accountable within the organization? Is there an optimal organizational structure?

As with most strategic initiatives, support for building and sustaining the culture of “analysis” required to implement a comprehensive ROI program starts at the top. At the beginning, immediate responsibility for gathering and analyzing the numbers should start with a specially designated person or committee within the Marketing department itself. Over time responsibility should extend beyond marketing to include business managers in other customer facing functions such as customer service, IT and sales. The more participation from Finance, the more likely that the system will be embraced and have an impact on strategic business decision-making.

10.What is the relationship of ROI to the Balanced Scorecard or other corporate strategy planning tools?

Integrating ROI measures with other Balanced Scorecard measures is essential to ensuring that marketing is aligned with other functions in furthering corporate goals. The Balanced Scorecard with its emphasis on financial as well as non-financial measures, ensures that a broad measurement system is put in place that ties directly to corporate strategy.

If a company already has a balanced scorecard or other planning system in place, including ROI measures is not difficult to accomplish. If not, the implementation of an ROMI measurement system affords an ideal opportunity to articulate corporate goals in terms of key metrics.