Discount Impact on Marketing Margin

Your merchandising team works hard to craft items with healthy gross margins.

Item Price = $60.

Cost of Goods Sold = $20.

Marketing Margin = ($60 - $20) / $60 = 66.7%.

Sometimes the item doesn't sell ... so when the merchant takes 20% off to move the item the resulting hit on marketing margin is the responsibility of the merchant.

• Item Price = $60.
• Promo Amount = 20% off, or $12.
• Cost of Goods Sold = $20.
• Marketing Margin = $60 - $12 - $20 = $28.
• Pre-Discount Marketing Margin = $60 - $20 = $40.

Discounts / Promos conceived by the marketing department play a different role ... when the marketer decides to increase demand/profit by via discounting, three things happen.

1. Best-selling items that did not need to be discounted because they were already priced appropriately are now sub-optimized for profitability.
2. The perception of the brand is tainted ... the brand is no longer a full-price provider but instead is a brand that cheated customers who paid full price.
3. Marketing Margin decreases - meaning that other marketing opportunities cannot be invested in because the marketer decided to spend the delta between price and cost of goods sold on discounting.

Discounting should be a last resort, reserved for specific items that are not selling well. More on that topic tomorrow.

But We Made More Profit!!

There's a reason that discounts, promotions, free shipping, exponential ad cost, and loyalty programs all permeate marketing.

Somebody, no matter how lousy the technique, measured the program and decided that executing the program generated more profit than not executing the program.

Here's the kind of example I run into every day:

• Demand - Returns = $1,000,000.
• Discounts / Promotions = 20%.
• Net Shipping Expense = 5%.
• Marketing Advertising Cost = 25%.
• Net Loyalty Expense = 5%.
• Cost of Goods Sold = 35%.
• Marketing Margin = $100,000 ... or 10%.

The marketer will respond with the time honored line ... "we measured this stuff and we make more profit when we execute our campaigns".

One of my favorite career stories happened at Eddie Bauer in 1998. That company loved discounts and promotions ... and my staff had all of these individual tests that "proved" that the discounts/promotions worked. I worked with one of my analysts - we executed a six-month long test where we didn't give any discount/promotions whatsoever. Sales didn't change. Why? Because in the individual tests, the analytics folks only measured the promo window and didn't measure what happened after a promo ended (i.e. sales went up during the promo and went down after the promo ended).

Now go ahead and pull the promos out of the story and see what happens to marketing margin.

• Demand - Returns = $1,000,000.
• Discounts / Promotions = 0%.
• Net Shipping Expense = 5%.
• Marketing Advertising Cost = 25%.
• Net Loyalty Expense = 5%.
• Cost of Goods Sold = 35%.
• Marketing Margin = $200,000 ... or 20%.

Your marketing margin should be above 25% if your business is healthy ... with the notable exception of when your cost of goods (i..e. Electronics) is very high ... then the rules change.

If your marketing margin is under 15%, you've consumed all of your profit potential with gimmicks. That's a bad thing ... bad for you, good for the vendors who support the gimmicks.

Spendin' Money!!

Marketers love to spend money. And they love to optimize the money they spend, at least in theory.

However, when you look at what marketers do through the eyes of "Marketing Margin", you realize just how toxic the current marketing environment really is.

Here's the definition of Marketing Margin:

Let's think about it this way. Here's what a company did in the month of December.

• $12,000,000 in Total Demand.
• $2,000,000 in Returns.
• Average December Discount Amount = 25%.
• Company Lost $500,000 on Shipping/Handling due to Free Shipping Promotions.
• Company Spent 20% of Total Demand on Advertising.
• Company Spent 3% of Total Demand on Loyalty Points and Rewards.
• Cost of Goods = $3,500,000.

Marketing Margin, according to the definition (above), is calculated as follows:

• ($12,000,000 - $2,000,000) - $2,500,000 - $500,000 - $2,000,000 - $300,000 - $3,500,000.
• Marketing Margin = $1,200,000.
• Marketing Margin Percentage = $1,200,000 / $10,000,000 = 12%.

Hint - when marketing + merchandising consume 88% of every dollar sold, you have a problem.

A healthy brand possesses a very different dynamic.

• $6,000,000 in Total Demand.
• $1,000,000 in Returns.
• Average December Discount Amount = 5%.
• Company Made $200,000 on Shipping/Handling.
• Company Spent 10% of Total Demand on Advertising.
• Company Spent 0% of Total Demand on Loyalty Points and Rewards.
• Cost of Goods = $1,750,000.

Marketing Margin, according to the definition (above), is calculated as follows:

• ($6,000,000 - $1,000,000) - $250,000 + $250,000 - $500,000 - $0 - $1,750,000.
• Marketing Margin = $2,750,000.
• Marketing Margin Percentage = $2,750,000 / $5,000,000 = 55%.

Which business would you rather manage?

Both businesses possess a 65% gross margin / 35% cost of goods sold. Therefore, the difference in the 12% Marketing Margin vs. the 55% Marketing Margin is marketing strategy. One business must spend money ... the other business doesn't need to spend money.

Which business would you rather manage?

Marketing Margin

Next week we're going to discuss something I call "Marketing Margin".

• Marketing Margin = Demand - Discounts/Promotions + Shipping Revenue - Shipping Expense - Marketing Ad Cost - Loyalty Expenses - Cost of Goods Sold.

Why would we measure Marketing Margin?

Well, the issue isn't so much that we're measuring Marketing Margin (we measure Profit, and Profit is more important than Marketing Margin) ... the issue is that we do not have a full understanding of how we allocate scarce resources.

In other words, we have limited resources, and as marketers we seem to want to spend every single dollar we're given. This limits the company from doing other smart things.

So next week, we'll look at Marketing Margin, ok?

Blake Nordstrom

Click Here.

Here's a story for you. It's late 2005 and Nordstrom has shut down the catalog division. The online President job opens up. I call Blake and tell him I'd like to be considered for the job. His response? "I don't think you have the skill necessary to do that job. I think you need retail management skills, given where the online division is trending. Here's what I am willing to do for you. You keep your salary, and I'll make you a store manager. You work in a store for a few years and get the hands-on experience you need, and if you do a good job we can talk about where you can take your career."

Now, I wasn't interested in doing that. But Mr. Nordstrom was willing to invest in my career. Having been in the retail industry for three decades, you can count on one hand how many Leaders are willing to do that for a geeky analytical guy like myself.

We'd have annual meetings - all Executives and several key Directors would gather for a day of strategy. Blake would call me and ask for a series of customer metrics that explained why business was good or not-so-good. My team would provide 'em. And then at the meeting Blake would tell the audience ... "Where's Kevin?" ... and I'd stand up and he'd say something nice and then he'd share customer metrics ... real stuff ... like "did you know that when we acquire a customer online the customer has a 70% chance of placing a second order in a store?" ... or "did you know that when a customer buys in a Nordstrom Rack that our Full-Line Store Sales are not negatively impacted?" And those facts were the lead-ins to the strategic direction for the upcoming year.

Before a quarterly investor conference call, Blake would call and get data from my team, and then we'd listen in on the conference call and he'd share something we authored and that was big time fun fifteen years ago when customer data was largely meaningless in a retail setting.

My favorite Blake Nordstrom story? I wanted fancy software for my team ... and Blake just looked at me and says "Now how many pairs of shoes do my employees have to sell so that you and your team get to have some fun at work?"

My wife and I were eating dinner outside on an island northwest of Seattle - I was taking a week-long vacation ... and I can see this figure with a big smile hustling down the pier toward our table. It was Blake. He spent five minutes with us, and he didn't have to do that, he had fifty-thousand people who wanted a piece of his time, but he spent time with people anyway. I recall working at the Northgate Store (north Seattle) during the Anniversary Sale, and there was Blake smiling at me watching me sweat as I hustled returns off the sales floor. He'd stop and chat with every employee who wanted his time. And he'd quiz the store managers, holy cow! But not in a mean way or in a condescending way.

A final story. Neiman Marcus used to tease Nordstrom publicly - stating that they were going to open a store in a mall and crush us. Blake asked my Real Estate analyst to quantify what happened when Neiman Marcus entered a market where Nordstrom had an existing store. She (our analyst) did the work, and it showed that our sales increased when Neiman Marcus would enter a market we already had a store in. Blake quickly and confidently shared that information publicly. And not surprisingly, the comments from Neiman Marcus quietly ended.

We frequently read about various leaders and their shortcomings, their nastiness, their incoherent obliviousness to what is really going on. You won't read comments like that about Blake Nordstrom, and for good reason. He was a regular person, and he did a lot of good for a lot of people. And from an analytics standpoint, he was a good five years ahead of the competition when it came to using customer information. I feel blessed I got a chance to work for him and his family.

MORE!!

Those who still adore catalog marketing are in for some GOOD NEWS!!

In the past five years, two things have happened (this dynamic is called "bifurcation").

1. Classic 65 year old catalog shoppers love catalog marketing even more.
2. Everybody else appears to shop less and less because catalogs are mailed.

It turns out that (1) is a really important finding. Why? Because the math shows that these customers deserve even MORE catalogs than the 30 a year you're sending out.

Yes. Seriously.

Here's a company that sends a stunning 30 catalogs a year to best customers. And they could send MORE to the best catalog buyers. Yes. MORE.

You'd think your paper rep or your printer or your favorite boutique agency would be telling you this ... right?

In the 30% of my work that is contact-strategy-centric, this is the emerging theme of 2019. And it's been this way for years!!!!

• 85% of your customers need significantly fewer mailings.
• 15% of your customers need significantly more mailings.
• Virtually nobody should be contacted the way you are contacting them.

Contact me (kevinh@minethatdata.com) if you want to find out if your best customers deserve MORE mailings. I'll run a quick scenario for you, for free, to determine if the opportunity exists.

Pages

Say you have an 80 page catalog. Say you sent the 80 page catalog to 1,000,000 customers. Say you generated $5,000,000 in demand. Say the 80 page catalog cost $0.50, and say that 35% of sales flow-through to profit.

Got all that?

If you know these facts, you can guesstimate demand at any circ depth and any page count. Here's a grid that represents our scenario.

And if we know ad cost and we know the profit factor, we can convert the table to profit ... and therefore determine the optimal profit / page count scenario.

At each page count the "optimal" circulation depth is colored red. In our example, the company seriously under-circulated, didn't it?

And in our example, more pages is better, isn't it?

But that's just one example. Frequently, fewer pages ... far fewer pages is better.

The most important thing is that you create these tables for each of your in-home dates.

You do this, right?

Right??

Contact me if you don't do this (kevinh@minethatdata.com), and I'll help you set up a scenario so that you know the optimal page count and circulation depth.