HOW TO ACQUIRE CUSTOMERS
By Ryan Allis, CEO of Hive
In today’s world, marketing is all about the product—not the advertisement. Once upon a time, you could create a mediocre product, and then with enough ad dollars and Madison Avenue script men, you could create artificial demand—generating perceived value for something that really didn’t have a lot of intrinsic value.
Today, with word of mouth (good and bad) spreading easily on social media and with the demand for quality designed products so high, you simply can’t succeed with a poor product.
So if you’re marketing a bad product, stop. Stop everything. Take those funds that you’re spending on advertising and put them instead into product development. Invest in building a great product before you even think about marketing.
Then once you have a great product, start storytelling. Use your marketing budget and talent to reframe the story that’s being told about your product by yourselves and others. At the end of the day, marketing and advertising is only partially company-directed. The real storytelling happens at the level of the customer, the level of the user. How your customers tell their friends about what they’re using is much more important than what you tell the world about your product.
In today’s world, word-of-mouth marketing is everything. A company and a product (particularly a consumer product) can truly never succeed unless the stories that are being told about it are coming from real people with real passion. You just can’t create a great product without passion, and you can’t create a scalable sales volume for a product unless you have a great story infused with user passion.
“Storytelling is by far the most underrated skill in business.” -Gary Vaynerchuck
Marketing today is just good storytelling, ideally across multiple media in a trackable and financially scalable manner. The point of marketing is to ensure that the right people have heard the right things about your product and your organization. The tidal wave of virality behind a good product can only come from a place of authentic quality.
There’s a lot of information out there about branding, but at the end of the day, a brand is just the aggregated sum total of each human being’s experience with your company and your products, including all your stakeholders—your customers, your employees, your shareholders, and your investors.
The Keys to Scaling Customer Acquisition
The six keys to scaling customer acquisition and marketing are:
- Amazing word of mouth from a great product (requires both a good product and the right viral hooks and social invite systems).
- Understanding the financial lifetime value of a customer.
- A tracking system that can help you calculate the cost per lead per channel.
- A tracking system that can tell you your conversion rate per channel.
- Constant testing of new channels, new creative (for example, new radio ads, new banner ads, new designs), and new funnel processes that help you convert a lead into a customer, and a customer into a repeat lifetime evangelizer.
- Great storytelling combined with beautiful design.
How to Scientifically Scale Customer Acquisition
To acquire users and customers, you need to have a system in place for tracking results and you need to constantly be testing. You need to spend between 10-15% of your monthly advertising budget on testing new advertising channels. And in order to be able to understand how much to allocate per advertising channel or per marketing channel, you have to calculate a really important number. You have to calculate your customer acquisition cost.
If you don’t know your customer acquisition cost, stop advertising. Stop spending money on advertising until you calculate that number.
In June 2005, I was having lunch with a friend of mine named Jud Bowman. Jud was the co-founder of Motricity, a company that raised $350M in venture capital before going public in 2010. Jud was asking me why I hadn’t raised venture capital for iContact. I told him I was considering it. He asked me two critical questions to determine whether we were ready to raise outside capital:
- What is the lifetime value of an average customer?
- How much do you spend to acquire an average customer?
Since iContact operated on a subscription model, Jud told me that I could estimate the lifetime value of an average customer by taking the monthly average revenue per user (ARPU) and multiplying it by the average number of months a customer stayed. I knew the average monthly revenue per customer was $45 at the time. I also knew our monthly average churn rate was about 3%, meaning an average customer stayed with us 1/0.03 or about 33 months. So to get an estimate of the lifetime value we simply multiplied $45 and 33 to get about $1500.
ARPU x Months of Life Before Cancelling = Lifetime Value
Then to calculate how much we spent to acquire an average customer, Jud told me to simply take what we spent per month on advertising and divide that figure by the number of new customers we acquired in a month. At the time, we were spending about $100,000 per month on advertising to acquire 330 customers per month. So our Customer Acquisition Cost was about $300.
Advertising Spend / Customers Acquired from Advertising = Customer Acquisition Cost
There it was. We knew we spent $300 up front to acquire a revenue stream of $1500 over about three years. This was very profitable transaction to make over and over, but we could only do it so much before we’d run out of money in our bank account. We knew we could spend a lot more in advertising at the same customer acquisition cost if we had the funds.
Based on this relatively simple math we went out and raised our first $500,000 in investment capital. It took us nine months, longer than we anticipated, but we got it done. We brought on Tim Oakley as our Chief Financial Officer in February 2006 and by April we had a term sheet from IDEA Fund Partners of Durham, NC, to invest $500,000 in iContact.
Ever since, we’ve kept an extremely close eye on our unit economics. Do you know the customer unit economics of your business?
Calculating Customer Acquisition Cost
Customer acquisition cost means how much it costs you to get a new customer. It’s really not that hard to calculate customer acquisition cost. You simply take your total amount spent on advertising during a period (let’s say, a month) and then you take your total number of new customers acquired during that month. If you’re not tracking how many new customers you’re getting per month, then your company has other problems.
Make sure you set up a system that tracks how many new customers and how many new users you add per month (per day, even) and make sure your accounting system can calculate how much you spend to acquire those customers on that monthly basis.
Not only do you need to know your overall customer acquisition cost, you need to know your customer acquisition cost by marketing channel. It often costs different amounts of money to acquire customers through radio versus TV, for example, or through direct mail versus online advertising.
As a scientific marketer who’s combining great storytelling with financial acumen and financial discipline, you need to have a great story and you need to be able to understand which channels to invest more money in.
Of course, mathematically, you should invest more money in the channels that are getting you the best results. For most companies, results means new paying customers, or new leads that you can turn into paying customers through a sales team.
Once you have a system in place, whether it’s through the web or through a retail store, that can enable you to scientifically track the additional incremental dollars put into a channel and then the additional results that come out of that channel, you can use basic, simple optimization formulas to determine how much to spend on each channel.
This really only works if you have a large enough budget to be able to calculate statistically significant data. If you’re spending, say, $500 on advertising and getting one or two customers from that spend, then you can’t really be sure if that’s happenstance. You need to have enough budget—probably somewhere in the neighborhood of 20-30x what it costs to acquire one new customer—in order to start getting data that’s good enough to be able to base decisions on. So if you think it costs you approximately $100 to acquire a new customer, you need to be spending at least $2,000-$3,000 to test that advertising channel and get 20 or 30 customers to be able to know your data is good.
Calculating Customer Lifetime Value
The next really important measure to determine is customer lifetime value. Customer lifetime value can be used in conjunction with customer acquisition cost to optimize your advertising and marketing spend. Customer lifetime value means the amount of revenue that you receive over the life of that customer. If a customer is buying a subscription product or generating recurring revenue, you simply take the amount of money that’s paid per month (or other period) and multiply it by the average number of months (or other periods) that customers are around before they cancel their account or stop their subscription.
If you are selling a one-time purchase product, then take a period of time—four or five years, for example—and look back at your data on which customers are purchasing what (which you should definitely be tracking in your purchase system or CRM system) and calculate how much an average customer spends per visit to your store or per visit to your website, and how frequently they purchase.
Let’s take two examples. In the case of recurring revenue, if a customer is paying $50 a month and stays around for 48 months, then the average lifetime revenue per customer is going to be $2400. As a very quick rule of thumb—and this varies greatly depending on the company—I have found that you can generally afford, depending on your cost of production, to spend a maximum of 1/3 of the customer lifetime value up front to acquire a new customer. Ideally, of course, you want to keep your customer acquisition cost as low as possible while still maximizing the number of new customers you get. So if your customer lifetime value is $2400, you might be able to spend up to $800 in advertising to get that customer and still break even or even be profitable.
Here’s a case of a non-recurring or one-time customer. Let’s say the average purchase price is $50 and within a period of three years, that average customer comes back six times. That means they will spend $300 with you, so you might be able to spend up to $100 (again, depending on your gross margin, net profit margin, and cost of goods sold) to acquire that new customer.
Once you have the data on customer acquisition cost by channel and customer lifetime value, (which you should also ideally calculate by channel, by determining which customers come from which channels, marking them as coming from that advertising channel, and then over time, tracking their unit economics or lifetime value), you can optimize your marketing and scale your ad budget scientifically. Once you know your conversion rate, your acquisition rate, and your customer lifetime value, you can scale your marketing.
As an example, in my experience at iContact, we found that radio was much more expensive than other marketing channels. That told us that we should reduce our spend on radio and increase our spend on the channels that were lower cost.
Online Marketing Channels
Here are some examples of online marketing channels:
- Search engine optimization, for sites like Google, Yahoo, and Bing. Basically, this is the way in which you can build content on your website and get other websites to link to you in order to show up in the organic search listings.
- Cost-per-click (or pay-per-click) ads, such as Google AdWords and Bing ad center where you pay per click for visitors to come to your website.
- Build up your presence on Facebook, Twitter, and YouTube.
- Purchase ads on those same services.
- Purchase banner ads.
- Create a network of affiliates who are incentivized to sell your product for a commission on each sale through tools like Commission Junction and Linkshare.
- Get reviewed on review sites like Yelp!, CitySearch, and Google Local.
- Do daily deals with services like Groupon and LivingSocial (although oftentimes that will reduce your profits.)
- Do email follow-up with tools like Constant Contact, iContact, and MailChimp.
It’s a lot easier to track online marketing results than it is to track offline marketing results. The general way that you will track offline marketing results is by spending enough of a budget in a particular region (a particular demographic area) that you can determine the results prior to spending any money and the results after spending the money.
For example, let’s say you focus on the Chicago area. Before doing any marketing, perhaps you were adding 100 customers a month from the Chicago region. You spend $100,000 on marketing in the region, and now you’re acquiring 200 customers a month. So that $100,000 spend has enabled you to acquire about 100 new customers. Depending on the frequency of your spending, you might say that’s about $1,000 per new customer, which would be your customer acquisition cost from that channel of advertising. Then you can figure out what it would cost and what the approximate results would be if you scaled that campaign nationally or internationally.
Some of the offline channels are obvious and have been around for decades, like television, print, radio, Yellow Pages, direct mail, trade shows, sponsoring events, putting up billboards, and using campus reps for word of mouth. The key is to test all of the channels and track the actual results from each one.
Increasing Customer Growth & Revenue
To summarize the key points of this section: in order to grow your advertising, tell a better story, and scientifically scale your marketing, here are some important steps:
- Calculate your cost per lead (CPL) and your conversion rate by channel. When you combine your cost per lead and conversion rate, you’ll know your customer acquisition cost by channel.
- Determine what you can pay per new customer.
- Test new advertising channels using scientific methods and combine that with great storytelling.
- Create a premium version of your product so you can upsell.
- Test doubling the price and see what happens—really test the price elasticity of your product.
- Get more affiliates and distributors.
- Open up more sales offices.
- Add more retail locations.
- Create additional products.
- Hire more salespeople, or just hire someone to call your existing customers and offer to sell them other products that help serve their needs.
- Raise capital and expand your advertising.
You can always raise capital once you know the unit economics of your marketing to expand your advertising scientifically.
Marketing is generating an interested lead. It’s turning someone from an unknown quantity into a trackable prospect. Sales is turning that trackable prospect (the lead) into a paying customer. Account management (or customer service, depending on your business) is about turning a customer into a repeat customer—someone who will come back time and time again and be a lifetime evangelizer.