Creative Corner- Mail-order Math (810 words)
What you need to know before you get creative
By Lois Geller
When new clients come to our agency, they often will start a meeting by discussing creative possibilities: "What do you think the ads should look like?" "What do you recommend for direct mail pieces that really jump out and excite prospects?" "Should we test a direct response commercial?"
Usually, I suggest that before we discuss creative, we find the marketing allowable.
And usually they'll reply, "What do you mean?"
I explain that we have to know, at the beginning of the process, how much we can spend to acquire a customer. We call this our marketing allowable. As we've seen from many recent dot-com failures, sacrificing profitability in the name of customer acquisition is a formula for disaster.
So, I thought I'd use this column to review what I call mail-order math. You might want to get a pencil and walk through the steps of the following hypothetical example with me.
Let's say we sell gold-plated key chains and our selling price is $49.95. We charge an additional $4.95 for shipping and handling. So, our gross revenue per order is $54.90.
Now let's look at some costs …
Product cost: $9.50
Credit card processing fee: 3 percent with
80 percent of orders using credit cards
(80% of 3% of $54.90): $1.32
800 number: $2 per call with 80 percent
of orders coming via phone (80% of $2): $1.60
Bad debt: 2 percent of $54.90: $1.10
Returns: 5 percent of $54.90: $2.75
Shipping costs: $3.95
Total costs: $23.22
The "Breakeven" Allowable
Next, we'll calculate our breakeven allowable. Take the gross revenue per order and subtract the cost per order:
$54.90 - $23.22 = $31.68
Breakeven allowables are fine to work with, but you also want to work in your profit. Let's assume a profit of 30 percent on product costs:
($9.50) = $2.85.
For our purposes we will treat that as a cost.
Then, take your gross revenue per order and subtract the cost per order and the profit:
$54.90 - ($23.22 + $2.85) = $28.83.
What this means…
In this example, our breakeven allowable is $31.68 and our marketing allowable is $28.83. What does this tell us?
For one thing, we can figure out what kind of response we need. If we have a marketing budget of $100,000 we would need:
$100,000 = 3,157 orders to breakeven; $31.68
$100,000 = 3,469 orders to hit our profit target; $28.83
If you are mailing and history tells you to expect a 2-percent response rate, then you must mail:
3,157 x 100= 157,850 pieces.
Your cost per thousand (CPM): $100,000 divided by 157.85 = $633 per thousand, which is achievable.
3,469 x 100= 173,450 pieces
Your cost per thousand (CPM): $100,000 divided by 173,45.85 = $576 per thousand, still achievable.
So, for this example, we know that to make a profit we'll need to get 3,469 orders. To get this number of orders, assuming a 2-percent response rate, we'll need to send 173,450 pieces. To stay within our budget of $100,000 we'll need to develop and send this direct mail program at a cost of less than $576 per thousand, although you can amortize development and other pipeline costs through a few mailings.
Only once we know the allowable can we develop creative strategies for a direct mail program.
The formula works in every medium. Of course, this is a quick-and-dirty analysis; to do it thoroughly is more complicated. You'll want to factor in multiple sales, repeat orders, referral orders, list rental, database costs, etc. But, doing this one simple exercise first will let you know what ballpark you're in.
I speak on the topic of creative at many different conferences because people love getting involved with the words and pictures. The real creativity, though, happens when a client gives us a budget and we figure out what we can afford to spend, and how we can get the most from this budget in direct mail, direct response ads, commercials or a Web site.
Always remember: Our business still is a numbers business. Advertising agencies can still spend money on image campaigns, but direct marketers always are accountable. We get our report card after the campaign is finished. Good luck!
What can I afford?
Follow these steps to calculate how much you can spend to acquire a customer.
- Determine your gross revenue:
• Selling price;
• Shipping and handling charges.
- Calculate all the costs to determine your "cost per order"
• Product cost;
• Order processing;
• Billing and collections;
- Calculate your breakeven allowable.
- Calculate the number of orders you'll need to break even.
- Calculate the cost per thousand.
LOIS K. GELLER, president of Mason & Geller Direct Marketing, is the author of "RESPONSE! The Complete Guide to Profitable Direct Marketing." Her new book, "Customers for Keeps," will be published Fall 2001. She can be reached at (212) 697-4477 or via e-mail at firstname.lastname@example.org.