My Rule of a Consistent Marketing Budget
Even the best idea in the world can’t be very lucrative without some marketing effort. That’s why establishing a good marketing budget is essential for any company. But how can you ensure that the numbers in the columns are consistent with your objectives? Here are some of my observations after more than thirty years of business experience.
Many managers and entrepreneurs want to establish a quick formula to determine how much money they should allocate to business development. We often hear that a percentage of sales should be allocated to marketing and that companies should spend between 6% and 12% of their revenues on marketing. Although this method is indeed simple to use, it’s important to understand that the percentage can vary greatly from one industry to another, depending on the company’s maturity and growth strategies. I suggest that you start thinking about this so that your own marketing budget is more realistic and consistent with your company’s situation.
Percentage of revenues vs. percentage of gross profit
Not all businesses generate the same gross profit on their sales (gross profit = sales – cost of sales). Let’s take a service company, for example. Gross profit margins are generally around 40% to 50% in this type of business, unlike a distribution company where sales generate a profit margin of around 30%. If the same percentage of sales were applied to determine the marketing budget of each of these companies, it would mean that one of them would have a much higher budget than the other. Let’s do the math to see what happens.
Say these two businesses have the same revenues and we’ll use 10% of sales for their respective marketing budget. In both cases, this is $50,000. However, for the service business, this amount represents only 20% of gross profit ($500,000 for 50% of gross profit = $250,000 of gross profit; $50,000 in marketing for $250,000 = 20%).
For the distribution business, this is 33% of gross profit ($500,000 for 30% of gross profit = $150,000 of gross profit; $50,000 in marketing for $150,000 = 33%). That means it is attributing 33% of its profits for its marketing strategy, compared to the service business that only attributes 20%. As you can see, using the same percentage of revenues without considering gross profit is not the best option, particularly if the compared businesses are not in the same industry or do not generate similar margins.
Maturity and growth strategy
The same can be deduced by comparing two companies in the same sector. Consider two manufacturing companies, one which is a start-up and the other which has been in existence for 20 years. The former has probably not yet reached its cruising speed in terms of gross profit margins, while the latter certainly has better functioning systems and more stable and optimal operational performance. However, even if these two companies operate in the same economic sector, the same percentage of sales cannot be applied to determine their marketing budget, since the former probably generates a much lower gross profit than the latter for each dollar of sales.
Percentage of gross profit
While I was running my business, I tried to determine more accurately how much money I should spend on business development. I then focused on gross profit margins. Is there a percentage of gross profits that is similar for all companies, regardless of the sector of activity? Is there a “normalized” percentage that reflects a strategy that generates similar growth from one industry to another?
I studied dozens of public company financial statements from all industries to determine a percentage of gross profit that is linked to growth strategies and the nature of the business. Here are the results of years of experience and observations!
The magic number is 30%. A growing company should normally devote about 30% of its gross profits to its sales and marketing activities. Beyond that, it is making a serious investment in business development to acquire customers. It must therefore achieve results! Devoting less than 30% leads to the conclusion that the company does not need to invest as much and that brand awareness does the job. However, it also means that if sales are not increasing, it may be because sales and marketing investments are insufficient.
I have observed companies that invest 75% of their gross profit in sales and marketing and others, more than 100%! It’s clear that they will not be able to support such a strategy over the long term if they are unable to grow income exponentially. I also observed the opposite: companies that invested only 10% or less of their gross profit in their sales and marketing activities. And the managers couldn’t understand why sales were not increasing or why their competitors were eroding their market share…
What about you?
So, what percentage are you using? Is it consistent with your growth strategy? Is it consistent with your business’s maturity and brand awareness? Take a look at your financial statements and determine the gross profit generated on sales. Then, calculate your total sales and marketing costs. Are they 30% of gross profit? More? Less? Does this align with your strategy?
Read our article: The seven ingredients for success in business