The Financial Metrics

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The Financial Metrics – Part I
Numbers, Numbers and More Numbers

A Marketing Balanced Scorecard

When you drive, there are a number
of information pieces available to
you in your car

Looking through the windshield lets
you see the hazards ahead of you

The dashboard with the speed and
tachometer are metrics that
complement what you see and help
you to determine whether you are
driving too fast or too slowly

The rearview mirror provides
feedback on what is behind and the
side mirrors give a backward looking
input

The temperature and oil gauges are
operational metrics that measure
how well the engine is running and
the fuel gauge provides information
so you don’t run out of gas

In marketing, measuring only sales
revenue is like driving a car by only
looking in the rearview mirror,
because sales measures what has
happened in the past

Just like driving, you need a
balanced set of metrics, or a
scorecard, as a marketer

What Is The Takeaway?

Since demand generation, new
product launch, and loyalty
marketing drive measurable sales
revenues, you can use financial
return on marketing investment
calculations more than 50% of the
time

But financial ROMI is not the answer
for all marketing measurement and
you have to have a balanced
approach with multiple metrics

Finance
Hello Darkness My Old Friend!

Finance is the language of business
and the sooner we learn to speak
this language, we gain respect in the
boardroom.

The one question that most of you
have asked me over and over is
“How do we get top management to
accept this method of marketing?”

Show them the money!

I once told a CEO that if they did a
specific marketing initiative, it would
increase their share price by 40
cents a share – it was funded almost
immediately.

Now as you might remember from
the early lectures, I explained that
financial ROMI is applicable to more
than 50% of marketing activities.

These include trial and demand
generation marketing, and new
product launch marketing.

Now, we will look at these metrics
and insights that are achieved
through quantifying marketing using
financial metrics.

55% of CMOs report that their staff
does not understand financial
metrics

Whether you understand math and
finance or not, you need to
understand these relationships
otherwise your career in marketing
will be over very quickly.

Metric - Profit

Revenues
- Cost
Profit

There is nothing special about this
metric, since we all know the math
behind it

But there are some insights that you
need to keep in mind when working
the math….

First
The marketing divide exists because
some firms choose to invest more in
demand generation marketing, running
sales and promotions, which drive sales
revenues, but kill profits.

Top brands invest more in brand and
customer equity, and as a result are
able to charge a premium price,
which means higher profits.

Competing on price is a losing game
since it kills profitability.

A few firms, such as Wal-Mart and
Dell, have been effective with this
strategy because they have
exceptional supply-chain
management capabilities that drive
cost down to a minimum.

So if operational efficiency is your
core strategy, then by all means
consider competing on price – but
for everyone else, using marketing
to drive profits is a better strategy.

Profit
vs.
Market Share

When you talk to brands, they are
most interested in “grabbing” share
in the market.

Market share is important, but if you
consistently lose profits to gain
share, the over time – this is a losing
strategy.

There is a conflict between
marketing and sales, since sales is
incentivized on volume, not profits.

If you analyze your sales forces, you
will see the the top performers,
those who get regular rewards, are
often the least profitable and may
even by negative in profitability.

How do you
change this?

When Mark Hurd became CEO of HP,
he changed the incentive packages
for all the HP Enterprise Sales team.

He incentivized the sales people
based on the profits of the products
they sell, not the volume.

Result?

HP’s overall revenues grew by 20%
between 2005 and 2007, but the net
income grew from $2.3 billion to
$7.3 billion – increasing the stock
price by 243%!

Solving for the “right” price point to
maximize profits and sales revenue
is a pricing exercise and, if you are
interested, there are many books to
teach you how to do that

But at the end of the day, price is set
by what the market is willing to pay
for the value of the
products/services you provide.

One approach is to use a brute force
method and increase prices by 5 -
10% a month and see where sales
start to drop off – this is what we
call the optimal price maximizing
sales and profits.

But I don’t teach
pricing methodology!

The intelligence behind the whole
discussion is that facing difficult
times and competitive pressures,
the first thought is to compete by
cutting price, at the cost of
profitability.

This will lead you to a death spiral of
losing money in the majority of
marketing activities.

A better strategy is to build brand and
customer equity so that you compete on
value, instead of price. This is what we
call Value-Based Marketing.

Value Based Marketing
Marketing Based on the Value of the Customer

Value-Based Marketing drives significant
performance gains and firms that bridge
the marketing divide focus on customer
value in all marketing activities.

An Example of Direct Mail Offers
Low to Medium CLTV +
Low to Medium Response
Rates are not sent a
mailing
From a ROMI point of
view, these customers are
slow on the take rate, so
why waste marketing
dollars here?

High CLTV + Low Response
Rates are also not sent a
mailing
The cost of the mailing is
not justified
Our focus, as marketers,
must be on the medium to
high CLTV + Medium to
High Response Rate
customers

Notice
Highest Expected
Response Rate + the
Highest CLTV get the 2nd
most expensive offer
Highest Expected
Response Rate + Medium
CLTV get the 3rd most
expensive offer
While the Lowest CLTV
don’t get an offer at all

Why do you think that is?

Those that have the lowest CLTV are
coming anyway so they get the lowest,
most cost effective offer. They are
coming because they value your product
but don’t respond to the “offers”; so it
would be a waste targeting them.

By focusing this single strategy on a
value-basis, we cut our marketing costs
in half – since we now focus on less than
50% of the potential customer base, but
the impact is significantly higher
because we are focusing on profitability.

Golf, Marketing & Finance

Ask someone with a golf handicap if
they keep score and they will laugh…

“Of course, how else do I know if I
am improving or not?”

A golf handicap is calculated by
taking the average golf score over
the last 10 rounds of golf played.
The handicap is the average number
of shots over par.

For those who have never been on a
golf course, there are 18 holes –
some with a par of 3, some with a
par of 4 and some with a par of 5.
Par is the number of strokes (shots)
expected for the “expert” golfer.

Adding up the 18 holes, par for
playing a golf course is typically 72
strokes.

Understand that golf is an incredibly
difficult sport where you have to
account for wind speeds, water
hazards, and trees.

Why am I talking
about golf scores?

Golf and marketing are very similar
and it’s very easy to demonstrate
finance’s role in a simple story.

Let’s assume that you have a golf
handicap of 10. This means that you
routinely keep score and on average
shoot 82 – or 10 strokes over par.

But today, you get the opportunity
to play at Pebble Beach, one of the
world’s top golf courses. Will you
shoot exactly 82 again?

Doubtful. Most likely, you will shoot
more – let’s say 90. Exactly 90?

Well, no – let’s say there is a range
from 82 to 100.

What does this mean?

First
Good golfers keep score so that they
know how well they played

Second
They keep score multiple times to
had a handicap.

The handicap is trend data that
helps them predict the future, but
when playing a new course for the
first time, there is a risk..

Third
Because of risk, it is not possible to
predict the future exactly – there is a
range of possible outcomes.

For financial ROMI, these are the
three major takeaways that you
must remember.

Every year in February, there is a
pro-am tournament at Pebble Beach
that bring great golfers and
celebrities together. Let’s assume
that you enter this tournament and
win!

Very excited, you get the large
trophy and a check from $ 1 million,
but there is fine print on the bottom
of the check -

You must chose $100,000/year for
20 years or $520,000 today. You
have to decide – which would you
chose?

Being a financial decision, it would
be helpful to know how much the
$100,000 per year is actually worth
today.

Basic education tells us that a dollar
today is not worth a dollar a year
from now, but how much is it
worth?

If I invested $1 today, what would it
be worth next year –
$1 x (1 + r)
r = rate of return we expect to get

So the $1 today should grow to
(1 + r) dollars with interest next year

To make this easier, you can divide
both sides by (1 + r) meaning that:
$1/(1 + r) = today’s dollar

So if r = 10%, then a dollar received
a year from now would be worth 91
cents today.
$1/(1 + 10%) = $1/1.1 = .909

So let’s go back to Pebble Beach

If we had $ 100,000/year for 10
years, with payments at the end of
each year, the value today is:

PV =
$100K/(1+r) + $100K/(1+r)2 +
$100K/(1+r)3 + …… + $100K/(1+r)10

So, the value of $100K per year for 10 years in today’s dollars, assuming a
discount rate of 10%. You would have $614,000 instead of the $520,000 today.

This example highlights that
calculating the metric is only the
first step in management decision
making.

In management, one can argue that
there are no wrong answers. But
with metrics, there are “better”
answers.

The Financial Metrics

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