This is the second part in a 5 part series on Incremental sales. Haven’t read the first part, click here. In this post we will be going over possible ways to calculate incremental sales. It’s different for just about everyone.
How is it calculated?
I truly wish there was one simple formula that all advertisers used all the time. There isn’t. Incremental is defined differently across industries and companies. Every company I have worked with in this regard has been completely different. Some start and end with first click vs last click. Others care for nothing more than new vs existing users. Still others follow the customer across all marketing channels and attempt to apply certain assumptions and models to determine what touch point(s) added value to their path to purchase and which ones did not. It’s not a simple formula and it usually starts with the inquirer’s marketing world view and the executives current sales and marketing push.
Typically, if you grew up through the Search Marketing channel, you look at first click vs all other clicks. If a purchase is made on a first click, it’s incremental, if not it isn’t. If your company is driven by new customers, then you value new customers over all others. But what is a new customer? If a customer hasn’t shopped with you for 2 years, and a typical customer shops with you every 6 months, is that returning customer consider new? Incremental?
What about a customer who hasn’t shopped in 9 months, received an email last week from you and then purchased through their favorite affiliate today? Incremental? I bet for every 5 people that read this, each one has a different answer.
Each individual advertiser has to determine their own characteristics of incremental and their own definitions of the subsets of this type of sale. Many multi-channel retailers look at catalogs delivered, aging of the customer, last retail purchase, email activity and more.
Most often I have seen a metric titled Margin Contribution that attempts to solve this issue. This formula basically divides sales into two categories, New Customers and Existing Customers. Then it assumes a percentage of each category as incremental and not incremental. Assumptions based sometimes on factual data we were able to gather, others times on following particular customers’ purchase path, and other times completely out of thin air. Actually, a lot of times out of thin air. I don’t necessarily recommend that, but I have seen people’s gut feeling be way more on target than formulas. Here is what it looks like:
Margin Contribution = ((New Customer Revenue-COGS)*Incremental Percentage)+ ((Existing Customer Revenue-COGS)*Incremental Percentage)-Affiliate Channel Costs
Margin Contribution attempts to get to the true bottom line of what was added to the bank account from this channel that would not have happend otherwise. Now, I am definitely not saying that this is the way I would do this in every circumstance or use this same equation with every affiliate partner or every time. But, it does provide some insight and it is all reliant on that incremental percentage. The major flaw in it, in my mind, is that your channel will be saddled with 100% of the costs of the sale (affiliate channel costs) but only get a portion of the revenue credit. If another channel is taking the revenue from a particular order, shouldn’t they also bear the costs? One of a myriad of good questions to ask throughout this process.
And as a note, we are only talking about profit rationalization, analysis – determining if the channel, and individual affiliates are profitable. Each advertiser has T&C’s with their affiliates and agreed upon payment terms. We aren’t talking about changing that at this point. Just determining which channels are incremental and which partnerships bring the most incremental revenue. You most likely will be looking at value of each partnership and adjusting your payout based on the greater or lesser the value.
Our next installment focuses on who this may be right for and who it isn’t right for and some ideas on what to do. That is in Part 3.