The Advertising Budget - Spending Money To Make Money


Most businesses don’t really know how much they should spend on advertising so, in the absence of any rational way of working out a budget, they simply use some rule of thumb method and hope for the best. And some of the most common methods they use just plain don’t make business sense:

Spending what your competitors spend

If XYZ Company sells a similar product to you and their budget is $20,000 then if you spend the same amount you’ll be matching their presence in customer’s attention. Fine – but all it takes is for one new well funded competitor to enter the market and your sales are almost guaranteed to suffer. Pegging to competitors won’t improve your sales and could leave you vulnerable to new players.

Spend what’s left; the ‘residual’ method

Here, what goes into the advertising budget is simply what’s left in the budget after all the other expenditures, from manufacturing to distribution, are accounted for. This method likely wastes money in years of high sales volumes through unnecessary advertising, and then doesn’t allow for enough spend in years of poor sales.

Spend a fixed percentage of sales value

If a product’s sales are truly predictable it’s possible to set the advertising budget as a percentage of the revenues that product will generate. But if spending x dollars generates the expected sales level, what happens if the company spends x+ dollars? If the business is certain sales won’t increase, even if it spends more, does it also know what is likely to happen if it reduces its expenditure? Another problem with this method is that if it’s used when product sales are in decline, then advertising support is taken away at the exact time it’s needed to get sales up again!

What’s happening in these methods is that the cart is going before the horse. Since the objective of advertising is to generate sales, then advertising expenditure should determine sales, NOT sales determine advertising expenditure – you need a budget that will allow you to promote in such a way as to GET THE SALES YOU WANT.

The reason most businesses don’t do this is simple – they can’t measure the relationship between what they spend on advertising, and what sales that spend generated for them. Here’s how to do it:

      1.   Record a ‘source’ for every sales enquiry your business receives. It’s best to determine the source of an
            enquiry at the very first point of contact. Make it compulsory for anyone taking an enquiry for a product
            to ask the prospect what prompted their call; and add a compulsory source field to any order/enquiry
            forms on your website.

      2.   Calculate the cost per channel. If you know the source of every sale, that is, which promotion the
            customer came across it in, then you can measure the revenue generated against the cost of that
            promotion – you have calculated the cost of sale per channel. It may be that newspaper ads cost less
            than your TV promotion, but the TV ads brought so many sales the advertising cost per sale was less
            than for the newspaper related sales. Now you have some hard information, and not just about how
            much a sale costs you, but also which promotional channel is most effective. 

      3.   Now, with this information you can calculate an advertising budget by multiplying the number of sales
            you want, times the amount you need to invest in advertising in each of the channels that worked for
            you – those that worked out with the lowest cost per sale.

Advertising is always best positioned as an investment of money to create sales. The future of most businesses, especially their growth, is largely dependent on how wisely they plan and execute their advertising.

Until next week,
Mike Reddy