Why Do Online Advertising? Part 2
Why Do Online Advertising? – Part 2 of 3
Lifetime Value Of A Client & Cost Of Acquisition
In the last article, I introduced Google AdWords and the concept of online advertising. This present article is probably the most important of the three, because I talk about more than just the online ads, but the concept of determine your basic costs for new clients / patients / customers. You will use these number to determine whether any advertising is worth it and how much you can spend for your ads or any marketing endeavour. And here I introduce Cost Of Acquisition and Lifetime Value.
Lifetime Value Of A Client – What Is This?
The lifetime value of a client is just that – how much is the client worth to your business. It takes into account how much money you make off this client, plus any peripheral business (such as referrals) and subtracts the additional costs to service this client. A Wikipedia definition can be found at https://en.wikipedia.org/wiki/Customer_lifetime_value
Lifetime Value Of A Client – Ecommerce Sites
Ecommerce businesses are relatively easy to determine the lifetime value of a customer. You should be able to track this particular customer’s total spending. You should know the costs of the item (be sure to include any shipping, corporate tax, additional labour, etc). If you have an affiliate program or referral incentive, you can work that into the equation as well. There is likely some referrals happening with any business, so if you have no way of tracking, you should make a guess. A guess is better than nothing. You can send a survey asking how the customer found you to determine the referral rate as well. A business analyst may be able to help you with this estimation if this sounds too intimidating.
Lifetime Value Of Client – Non-Ecommerce Sites
If you don’t have an ecommerce site, then determining whether or not the advertising is worth it becomes a bit more in depth. You need to determine the lifetime value of a new patient / client / customer / whatever you want to call them. This is a number all business owners really should know, as that can drive any sort of campaign they may undertake. Once they have this number, then if the cost to acquire (cost of acquisition) is less than the value brought in by the advertising, you are laughing and it’s a good decision.
Here are some of the things to consider when calculating the lifetime value of a client. I will use a chiropractor as the example.
Determine Lifetime Value - Revenue
- Initial visit fee
- Average number of visits in a lifetime
- Average number of referrals per new patient times the value the referrals bring in
- If this number is high, then you can go to the next level (value of referral’s referrals)
Subtract Incremental Expenses
- Additional labour associated with treating these new patients
- Taxes on the additional profit
- Additional 3rd party costs (management software, etc)
- Any additional infrastructure if needed.
Do NOT include a fraction of rent, portion of salaried employees, share of 3rd party software, UNLESS it is an additional cost. You’d have to pay these costs anyways. So subtract the expenses from the revenue and you get the net lifetime value of a client.
What is Cost Of Acquisition?
“An acquisition cost, also referred to as the cost of acquisition, is the cost that a company recognizes on its books for property or equipment after adjusting for discounts, incentives, closing costs and other necessary expenditures but before sales taxes” – from Investopedia - Cost Of Acquisition Definition
Basically, this means how much does it cost to get a new customer, over and beyond your regular operating costs. Please refer to the link above for more details.
Cost Of Acquisition – Ecommerce Sites
The cost of acquiring a new customer for an ecommerce site is fairly easy to calculate. How much did you spend in marketing for a sale. Cost of acquisition can be higher for higher ticket items or items with a larger profit margin.
Cost Of Acquisition – Non-Ecommerce Sites
The cost of acquisition for non-ecommerce online marketing is a bit tougher yet. The question is “how many people that find your company through the ad end up being customers / clients / patients?”.
One good way to determine this is to use a dedicated number. There are options with Google AdWords where you can get a dedicated number for ads. Or with a good programmer, a secondary number can be programmed into the site so that when the ad is the source, the phone number change throughout the site. Then you as the client can go back and determine who called, who became clients and how much money they made you, or will make you in the long run. The downside to this is that there is the potential to have multiple numbers showing up for your company. We have seen this with the online Yellow Pages advertising. So be careful, but this is a great way to really figure out your revenue from advertising based clients.
If you don’t have a dedicated phone number for your ads, then you need to somehow determine what percentage of new enquiries are from the internet and then what fraction of these are from online advertising. The following is a suggestion of how to do this. You will need to have Google analytics installed on your computer and have AdWords connected (your marketing company should be able to do this for you). You need to ask all new enquiries how they heard about you. They likely won’t know whether it is from an ad or from a Google organic search. So you will have to look at the total visits to your site and the visits from AdWords. Then you can likely assume the ratio of AdWords visits to a particular page (maybe the contact page) to the total visits to that page equal the ratio of business obtained through the internet.
That sounds a bit confusing, but here’s an example that may help clear it up a bit.
- You ask everyone who enquires by phone or email / web form, you find out the total number of new clients from the Internet is 45 in May.
- Web traffic to your contact page is 200 from AdWords and 600 total for the month, so 1/3 is from AdWords
- Multiply 1/3 by 45 and you get 15 new clients from Google AdWords
Summary – Part 2
So now you know how to determine your Cost Of Acquisition and your Lifetime Value of a client. How does this relate to Google AdWords, well, AdWords is an expense, figured into the cost of acquisition. What is your Return On Investment? Is it worth advertising online? In Part 3, we will put all this together.