December 30, 2008

E-Mail ROI Is Overstated Because Of Search

Sometimes our business intelligence systems and KPIs miss subtleties in customer behavior.

Take e-mail marketing. Pundits frequently tell us that e-mail marketing has the best ROI. And they are right ... only because e-mail marketing is essentially free, from a variable cost standpoint. Take a look at the following profit and loss statement:


Actual
Circulation 100,000
Response Rate 0.14%
AOV $125.00
Demand $17,857
Net Sales $14,286
Gross Margin $7,143
Less Marketing Cost $300
Less Pick-Pack-Ship $1,643
Variable Profit $5,200
% of Net Sales 36.4%
ROI: Profit/Cost 17.3

The ROI is spectacular because the campaign only cost an incremental $300 to deliver. Campaign development and staffing costs are largely fixed, as we all know, not appearing in a variable profit statement.

Here's where we overstate e-mail ROI.

E-mail is a demand generation vehicle, correct? In other words, e-mail causes demand to happen that wouldn't happen otherwise. More important, e-mail causes customers to search for merchandise --- the customer uses Google, and visits the site after clicking on a paid search ad (I see this happening in client data all of the time).

Many retailers will "matchback" the Google-based order to the e-mail campaign that drove the Google-based paid search order.

But few retailers take the next step ... matching back all paid search clicks that do not result in an order. And this is where e-mail marketers make a mistake. If e-mail marketing causes customers to use paid search, and those customers do not convert to an order, e-mail marketing must be held accountable for the expenses generated by paid search clicks not resulting in an order. In most cases, the paid search marketer is held accountable for this expense.

How does this change the profit and loss statement? Take a look:


Actual Paid Search Totals
Circulation / Clicks 100,000 3,657

Response Rate 0.14% 1.75%
AOV $125.00
$125.00
Demand $17,857 $8,000 $25,857
Net Sales $13,393 $6,000 $19,393
Gross Margin $6,696 $3,000 $9,696
Less Marketing Cost $300 $1,829 $2,129
Less Pick-Pack-Ship $1,540 $690 $2,230
Variable Profit $4,856 $481 $5,338
% of Net Sales 36.3% 8.0% 27.5%
ROI: Profit/Cost 16.2 0.3 2.5

There are two important facts to consider.
  1. E-mail marketing is not getting credit for an additional $481 of profit it generated via paid search. If e-mail marketing did not exist, in this case, 3,657 paid search clicks would not have happened, resulting in $8,000 less demand and $481 less profit.
  2. Just as important, real e-mail ROI is in the tank. Because e-mail caused 3,657 paid search clicks to happen, e-mail caused $1,829 of paid search expense to happen that would not have happened otherwise (you can easily verify this via mail/holdout tests). Reported e-mail ROI of 16.2, as stated in the analytics reporting generated by the BI team, is actually 2.5 ... comparable to other marketing activities.
Our analytics systems are giving us a false sense of the cause/effect that actually happens in marketing. E-mail marketing generates demand, consequently, it causes expenses that would not happen otherwise.

And this false sense of the cause/effect may actually hurt our ability to run the business. In this case, e-mail marketing is more profitable than otherwise observed. E-mail ROI, however, is grossly overstated using the typical KPIs generated by the BI team.

It is our job (as business leaders) to accurately portray what customers are actually doing. Most BI and e-mail analytics systems are not set up to detect the phenomenon described above. Most companies do not do the mail/holdout testing required to detect the phenomenon described above.

As a result, some of what we read in the e-mail blogosphere/trade-journal/vendor-whitepaper world is fundamentally flawed.