April 29, 2008

Square Inch Analysis (SQUINCH) and Monthly Item Profitability Reporting

Back in the 1990s, square inch analysis (sometimes labeled as SQUINCH) was the foundation of a successful multichannel catalog program.

Those days are remembered as fondly as we remember $1.30 per gallon gas, new episodes of Seinfeld, and the raging conflict between Bill Clinton and Newt Gingrich.

Back in the 1990s, we'd evaluate each item based on the sales generated in that specific catalog, divided by the space allocated to the item.

Here's a simple example. Assume we circulate a catalog to 1,000,000 individuals. On one page of the catalog, there are three items featured.
  • Item #1 = 0.15 page, $1,200 sales.
  • Item $2 = 0.35 page, $2,200 sales.
  • Item $3 = 0.50 page, $3,200 sales.
Looks like Item #3 performed the best, right?

Let's control for the amount of space the item was given.
  • Item #1 = $1,200 sales / (0.15 page * 1,000,000 circ / 1,000 pages) = $80.00 DMPC.
  • Item #2 = $2,200 sales / (0.35 page * 1,000,000 circ / 1,000 pages) = $62.86 DMPC.
  • Item #3 = $3,200 sales / (0.50 page * 1,000,000 circ / 1,000 pages) = $64.00 DMPC.
DMPC = Demand per Thousand Pages Circulated.

After controlling for the number of pages circulated, Item #1 actually performed the best!

In the 1990s, we'd evaluate every item in the catalog in this manner, giving more space to the items that performed best, limiting space to the items that performed worst.

Now fast forward to 2008. You still mail the catalog to 1,000,000 souls who haven't told a third party opt-out service that they are disgruntled with your activities. What has changed since 1990?
  • Sixty percent of your transactions occur online, about half of those transactions are driven by catalog marketing.
  • You also deliver eight e-mail campaigns during the time when the catalog is active, six of the eight e-mail campaigns offer free shipping, a perk not given to loyal catalog shoppers.
  • Ten percent of your marketing budget is allocated to paid search, spread across 2,500 keywords.
  • Affiliate marketing and shopping comparison sites contribute to your online sales.
  • Portal advertising drives traffic to your site.
  • Items featured on blogs account for 2% of your sales.
  • Your online merchandise assortment is greater than your catalog merchandise assortment.
  • You've learned that catalog marketing and e-mail marketing drive sales to items not featured in either marketing activity.
In other words, square inch analysis only tells you part of the story about the performance of an item.

Increasingly, I see multichannel wizards attempting to perform Monthly Item Profitability Reports. In other words, every item a multichannel brand sells is evaluated on the basis of the monthly profit generated across all advertising activities. Here's a sample Monthly Item Profitability Report.

MONTHLY ITEM PROFITABILITY REPORT



Items Sold
500
Average Price Per Item Sold
$39.99



Telephone Demand, Total
$8,000
Online Demand, Total
$12,000
Monthly Demand
$20,000



Final Fulfillment 94.0% $18,800
Return Rate 20.0% $3,760
Net Sales 75.2% $15,040
Gross Margin 55.0% $8,272



Less Catalog Marketing
$1,850
Less E-Mail Marketing
$50
Less Paid Search Marketing
$400
Less Affiliate Marketing
$275
Less Shopping Comp. Mktg
$225
Less Portal Advertising Exp.
$315
Total Advertising Expense
$3,115



Pick/Pack/Ship Expense 11.5% $1,730
Variable Operating Profit
$3,427
Profit, % of Net Sales
22.8%
Ad to Sales Ratio
20.7%

Notice that all demand generated by an item is included in the report. Similarly, advertising expense by advertising channel is allocated to each item.

This isn't an easy thing to do, and quite honestly, few multichannel companies have the database infrastructure to conduct item-level profit and loss statements on a fluid and automated basis. Regardless, this is the direction our industry is taking, and it is a necessary step if we want to truly offer a profitable multichannel merchandise assortment.

Your thoughts? Who is doing this well? Have you made different decisions as a result of conducting an analysis of this nature?

4 comments:

  1. The million dollar question (or the $3115 question if you use your example): How do you allocate marketing costs? If someone gets an email about a widget and ends up buying a doo-dad which product pays the bill?

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  2. The problem you describe has been around for more than a hundred years.

    A hundred years ago, Sears shipped homes to rural customers who received Sears catalogs. They mailed maybe two or three big books a year to a customer.

    If Sears elected to not mail one of those catalogs, customers purchased from the other catalog, and purchased different merchandise.

    The reality is that, for the most part, we won't be able to answer your question.

    However, we can take steps toward answering your question. Few marketers want to take these steps.

    First, we should execute mail/holdout tests for e-mail campaigns. We should offer ten versions of an e-mail campaign, each offering a different merchandise assortment. We then measure item-level, department-level, and total sales across each e-mail version (including a holdout group that doesn't receive the e-mail campaign).

    This answers your question. Almost nobody wants to do this.

    Same thing with catalog marketing. Go ask the folks at L.L. Bean about "incrementality". They are probably best at measuring the influence of combinations of catalogs on items sold across channels. They set up sophisticated tests to accurately measure how catalog advertising impacts other forms of advertising across phone, web and store channels.

    But again, almost nobody wants to do this kind of testing.

    Paid search testing isn't terribly difficult, either. Turn on various keywords one week, turn them off the next week, and watch sales change.

    Many folks go with "matchback analytics". They make up allocation rules (rules that may not be based on reality), and then perceive they're doing well. And they are probably doing better than folks who do nothing.

    So those are a few ideas.

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  3. Anonymous5:28 AM

    I love the concept and constantly struggle with the most appropriate way to do this, but how does it translate to something which is actionable from a promotional planning perspective across channels? It is nearly impossible for most companies to manage at this item level detail across all ongoing promotions, when most companies are dealing with hundreds/thousands of products and hundreds of promotions per year.
    Automation of this would be one solution but merchandise mix requires some level of the human element as well. Thoughts?

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  4. Let me ask the question of you a little differently?

    You have two items.

    The first item generated $20,000 sales, but $5,000 was spent on catalog advertising of this item and $5,000 on paid search.

    The second item generated $20,000 sales, but $0 was spent on catalog advertising, and $6,000 was spent on paid search.

    Tell me how you change your promotional strategy for each item?

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