Setting Your Advertising Budget

Money

“I know that half of my advertising expenditures are wasted, I just don’t know which half”

There is no direct linear relationship between advertising dollars spent and sales. The truth is, in most traditional outbound marketing with the exception of direct response, we don’t know the relationship between advertising spending and sales. Nor can we calculate a consistent return on investment (ROI) on advertising that is comparable year to year. We know, intuitively, that it’s better to advertise than not to advertise. And we know that at some point there is a diminishing return on advertising dollars spent. The key is to know your goals before setting your advertising budget and to budget accordingly.

What are the traditional methods for setting advertising budgets? Depending on the source, there are between four and seven methods used to develop an advertising budget. Although seven are presented below, infinite other possibilities exist.

Percent of Sales: historically this is the most widely used method of setting advertising budgets. It works well for mature products and the average across all industries is five percent of gross sales with some industries like furniture retail being much higher and some industries like colleges and universities being much lower. Percent of sales is not a good method of advertising budgeting to use during the introduction or growth phases of the product life cycle (when sales are low).

Objective and Task: the objective and task method is consistent with management by objective business practices. Essentially, a specific end goal or objective is determined and the advertising budget is set based on the campaign costs associated with achieving the desired results. In my opinion, this is the only advertising budgeting option that works equally well in both outbound and inbound advertising campaigns.

Competitive Parity: this method of advertising budgeting is based on matching what your direct competition spends on their advertising. In essence, you’re admitting that you have no idea what you’re doing but your competitors are wicked smart and seem to know what they’re doing. Here’s a secret – no one really knows what they’re doing when it comes to advertising budgeting! Some methods work better than others, but this isn’t one of them.

Historical: the basis of this method is to spend close to what you spent on advertising (on average) over the past three to five years. The good news is that it allows for level budgeting. The bad news is that you have no idea if what you’ve been spending in the past is the optimal amount. Have you reached the point of diminishing returns? If not, consider another budgeting method.

Market Share/Share of Voice: the goal is to reflect your standing in the market with your advertising efforts. Thus, if you have 20 percent market share, you should budget to account for 20 percent of the total advertising dollars spent in your industry. But what if you only need to spend 10 percent of the total advertising expenditures in your industry to retain your 20 percent market share? At this point, half of your advertising budget would be wasted.

All You Can Afford: another interesting concept in advertising budget setting is the all you can afford method. My experience, especially when dealing with SMEs, is that the answer is zero dollars. Their perception is that money spent on advertising takes away from the bottom line (retained earnings) rather than contributing to the bottom line. Advertising is a necessary expense and can yield positive results if managed correctly. On the other end, the potential exists for wasting advertising dollars by spending too much.

Combination: mixing and matching any of the above methods to come up with an advertising budget. Creative combinations exist but may be difficult to defend when upper management requests proof of advertising ROI or effectiveness.

The Solution

In my opinion, the only advertising budgeting method that makes sense both logically and economically is the objective and task method. However this recommendation comes with a caveat: it only works well if you have a reliable marketing research program in place to monitor pre- and post-campaign measures of effectiveness. Thus, the cost of the marketing research needs to be incorporated into your overall advertising budget.

Set your advertising budget with specific objectives defined. Examples of objectives include increasing primary demand for the product/service category, increasing selective demand for your specific product/service offering, moving those in your market through the motivated states sequence (awareness/attention, interest, desire and action), branding, product positioning or to ensure top of mind awareness to remain in one’s evoked set. While not exhaustive, these objectives when combined with research provide marketers with the ability to customize advertising efforts to meet desired end goals. For instance, if your advertising goal is to increase the awareness of your product/service by ten percentage points, you need to take a baseline measure of awareness prior to launching your campaign (pre-test), cost out the efforts that you believe will provide you with the best opportunity to achieve your objectives, implement the campaign and then measure for success or failure (post-test). The results achieved provide feedback and direction for future campaigns.

Certainly financial constraints exist and serve as a limiting factor when determining advertising budgets. To invest in advertising is to invest in your success. Work from cash reserves or roll out your advertising as you can afford to do so. Realistically setting your advertising budget requires you to balance goals with resources. Using the objective and task approach is the best way to conservatively manage your advertising expenditures.

2010 Advertising Expenditures

The Future

Metrics for inbound marketing are much easier to obtain than are metrics for traditional outbound media. This is driving a shift in overall advertising spending by media category as illustrated in the estimate of 2010 advertising expenditures presented above. Inbound marketing techniques provide marketers with real-time, fluid advertising-attributable results, something only attainable via direct response advertising using outbound marketing.

Regardless of the method that you select for determining your advertising budget, the key is to optimize impact/results while minimizing expenditures. Don’t be one of the multitudes of advertisers worrying about which half of their advertising dollars are wasted. Be wise when you advertise.

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