Cost Per New Customer

Cost Per New Customer is one of the easiest metrics to measure, hence, it is beloved by many marketers.

The marketer spends $1,000, yielding 25 new customers. Cost Per New Customer is measured as ($1,000 / 25) = $40.00.

The marketer compares CPNC across all marketing activities, seeking to maximize activities with a low CPNC.

A metric that yields a better result is Profit Per New Customer, or PPNC. In order to calculate PPNC, we need two additional metrics.

1. Average Order Value --- the average amount that a new customer spend when placing a first order.
2. Profit Factor --- visit your finance department, and find out how much demand (independent of ad cost) flows through to profit.

Here's an example.

• Marketer spends $1,000 on a marketing program.
• 25 new customers are acquired.
• The average order value is $150.
• 40% of demand flows-through to profit.
• PPNC = ((25 * $150) * 0.40 - $1,000) / 25.
• PPNC = ($3,750 * 0.40 - $1,000) / 25.
• PPNC = ($1,500 - $1,000) / 25.
• PPNC = $500 / 25.
• PPNC = $20.00.

In this example, the marketer generated $20.00 profit for every new customer acquired by the marketing program. This is good performance! Take this information to your finance department, and ask for more money!

In most cases, marketing for new customers results in a loss. Let's assume that instead of 40% of demand flowing-through to profit, only 20% of demand flows-through to profit. Now see what happens to the calculation:

• Marketer spends $1,000 on a marketing program.
• 25 new customers are acquired.
• The average order value is $150.
• 20% of demand flows-through to profit.
• PPNC = ((25 * $150) * 0.20 - $1,000) / 25.
• PPNC = ($3,750 * 0.20 - $1,000) / 25.
• PPNC = ($750 - $1,000) / 25.
• PPNC = -$250 / 25.
• PPNC = -$10.00.

In this case, the marketer lost $10.00 profit acquiring each new customer. This may be ok, however. Calculate how much profit customers generate over the next twelve months (or longer, depending upon your payback window).

If the customer generates $20.00 of profit in the next twelve months, then things are fine, because we are willing to lose $10.00 of profit now in order to gain $20.00 profit in the future.

We also look at the sensitivity of profit per new customer. If we believe that the economy will be 20% worse next year, we can run our analysis assuming decreased productivity.

• Marketer spends $1,000 on a marketing program.
• 20 new customers are acquired (25 * 0.80 due to the economy).
  
• The average order value is $150.
• 20% of demand flows-through to profit.
• PPNC = ((20 * $150) * 0.20 - $1,000) / 20.
• PPNC = ($3,000 * 0.20 - $1,000) / 20.
• PPNC = ($600 - $1,000) / 20.
• PPNC = -$400 / 20.
• PPNC = -$20.00.

If the economy is twenty percent worse next year, our PPNC drops from -$10.00 to -$20.00. We would calculate the long-term value for this customer segment, assuming a 20% drop in the economy, and if we generated at least $16.00 of profit, we could continue to execute this marketing program. (NOTE: Math correction from earlier post, thanks to Harry Joiner!)

As you can see, Cost Per New Customer (CPNC) is a good thing. Profit Per New Customer (PPNC) is even better!

UPDATE 12/7/2008: A new post contains a link to a spreadsheet that allows you to calculate these metrics for your marketing activities.

Return On Investment When Business Is Good

If you're one of the lucky folks managing online or catalog marketing at a company that is "winning", you have an interesting opportunity.

Let's say that this profit and loss statement represented what you expected to happen in April.

Demand	$100,000
Net Sales	$85,000
Gross Margin	$42,500
Less Marketing Cost	$25,000
Less Fulfillment Expense	$10,200
Operating Profit	$7,300
% of Net Sales	8.6%
Ad to Sales Ratio	29.4%
Average Order Size	$85.00
Number of Purchasers	1,176
Cost Per Purchaser	$21.25
Profit Per Purchaser	$6.21

You expected to generate $7,300 profit, and 1,176 new customers.

You execute this marketing plan, and observe these actual results for the month of April:

Demand	$115,000
Net Sales	$97,750
Gross Margin	$48,875
Less Marketing Cost	$25,000
Less Fulfillment Expense	$11,730
Operating Profit	$12,145
% of Net Sales	12.4%
Ad to Sales Ratio	25.6%
Average Order Size	$85.00
Number of Purchasers	1,353
Cost Per Purchaser	$18.48
Profit Per Purchaser	$8.98

Courtesy of the magic of your merchandising team, customers loved what you offered them, spending 15% more than expected.

Here's the challenge. If you believe that during the month of May you will see similar results, you can pocket a similar level of sales and profit.

Or, you can increase your advertising, and acquire more names, while still generating the same level of profit you promised to your CFO. This example shows what could happen, if you boosted your advertising spend:

Demand	$143,635
Net Sales	$122,090
Gross Margin	$61,045
Less Marketing Cost	$39,000
Less Fulfillment Expense	$14,651
Operating Profit	$7,394
% of Net Sales	6.1%
Ad to Sales Ratio	31.9%
Average Order Size	$85.00
Number of Purchasers	1,690
Cost Per Purchaser	$23.08
Profit Per Purchaser	$4.38

This is one of those unique mysteries that complicate the lives of those of us who manage profit and loss statements for online or catalog channels.

Choice number one allows us to pocket an additional five thousand dollars of profit.

Choice number two allows us to achieve our budgeted profit, but grows the top-line by an additional $28,000, and adds an additional 337 customers that contribute to future sales and profit.

I've always advocated spending more money when times are good, and spending more money when times are bad (to liquidate merchandise, but not at liquidation prices) --- holding to the marketing budget when business is close to plan.

What would you do? Would you pocket the profit today, or, would you spend more to acquire more customers, customers that deliver future sales and profit? Your thoughts?