February 09, 2009

Micro-Channel Profitability

Don Libey asks the following question (of more than a hundred) in his February Multichannel Advisor newsletter:
  • Has anyone shown me the actual, proven profitability for pay-per-click, affiliates, adwords, social media, and all the other micro-stuff? Is it accounted for in the same way as catalogs or any other marketing effort? Is it accurate? How do I know that?
I've always been an advocate of evaluating marketing activities on a variable cost basis. I've always believed that mailing another 10,000 e-mails does nothing to the fixed cost structure of the business, once you decide to mail the first 1,000,000 in your weekly campaign.

Maybe I've always been wrong.

Take your average $50,000,000 online/catalog brand. Assume that it costs about 4% of net sales to keep the wheels on the website --- servers, bandwidth, widgets, web analytics tools, commissions to 3rd party vendors for each sale, IT staff, programming code for new applications, inventory system alignment across channels, you name it.

4% of $50,000,000 is $2,000,000.

Finally, assume you have 12,000,000 annual website visitors.

One could make an argument that each visit to the website costs $2,000,000 / 12,000,000 = $0.167.

Imagine adding $0.167 to every paid search visitor. Or to every organic search visitor? Or every visitor who randomly visits from Twitter? Here's a paid search example:

Current With Fixed
Clicks 5,000 5,000
Conversion Rate 2.1% 2.1%
# of Buyers 105 105
AOV $95.00 $95.00
Demand $9,975 $9,975
Net Sales $7,481 $7,481
Gross Margin $4,115 $4,115
Less Marketing Cost $2,500 $2,500
Less Est. Fixed Costs $0 $835
Less Pick/Pack/Ship $860 $860
Profit $754 ($81)
Profit Per Buyer $7.18 ($0.77)

The most important part of this exercise is to think! I'm not saying one way is right or wrong, but we have a responsibility to consider whether our activities are truly profitable or not --- we need to ask ourselves if some channels get a free ride while others carry too much of the freight.

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