B2B companies without a marketing department or executive level marketing person too often arrive at an annual marketing and sales budget by determining how much the company can comfortably afford, subtracting sales person salaries, and then revising that figure downward to make it more palatable to the Owner/President/CEO. Few respect that marketing plays a vital role in empowering a company to meet its objectives, and they spend accordingly.
But if not based on affordability, on what should one base a marketing and sales budget?
Percentage of Revenue
The time-honored method of setting a budget is to base it on a percentage of historical or projected revenue, which is a common top-down approach. Most companies use around 10% as a base, but we’ll discuss that in more detail next month. Using this method, an executive or financial/accounting manager would calculate the budget by multiplying a company’s historical or forecasted revenue by a standard percentage. This method makes sense as it is consistent with how other business expenses are framed: against the quantity of goods sold.
The issue with the basic version of this approach is that it does not respect the importance of marketing and sales as a revenue generating activity and does not treat marketing as an investment. Revenue is a result of marketing and sales, so not spending enough on it hampers a company’s revenue generating potential.
To correct for this, the percentage used should be modified based on the level of growth the company is targeting and the current business environment. For example, a company, product, or service early in its life must spend more on marketing and sales to gain traction and lay a foundation for solid revenue growth. That is why many companies will set their marketing and sales budget based on the desired revenue five years out. This is especially useful for young companies entering a competitive market. Even with zero historical revenue and little expected revenue in year one, a young or new company knows it needs to spend to gain traction in the marketplace. Looking a few years out focuses the budget on objectives and not the limitations of a company’s current performance.
Similarly, some argue for a counter-cyclical spending strategy for established companies—spend more when sales are slow and do not spend unnecessarily when sales are exceedingly high—as it is often important to invest in marketing and sales to increase sales when they are soft. (For more on this, see our article on The Importance of Marketing in a Down Economy.)
Another means of determining one’s marketing budget is to calculate what the cost of marketing and sales is for each unit of the product or service to be sold, not to be confused with cost of goods sold, and then to determine the expected volume of sales. This is a variation of the percentage of revenue method, but it frames the budget in a way that focuses on units of sale. For example, take a company’s key performance metric, which for an oil and gas service company could be boots on the ground per day or service hours. Assume it takes on average $15 dollars of marketing and sales expenses to sell one man-hour of work to a client. If the company plans on providing 77,000 hours of service in 2016, then the marketing and sales budget should be $1,155,000 in 2016. The limitation of this method is that without accurate historical data it can be difficult to determine the cost to sell each unit. This method is excellent for companies that are limited by production or service capacity.
This approach is based on competitors’ marketing and sales spends. Simply look at what a competitor is spending on marketing and sales and spend the same. This on its own is rarely an efficient or tenable strategy as companies’ have different marketing and communications strategies, resources, and situations. It can also be difficult to obtain information on competitors’ marketing spends.
One can also set an optimal marketing and sales mix based on a sound strategy to achieve certain objectives. This approach requires that experienced marketing and sales managers create a Marketing Communications Strategy that is designed to accomplish the company’s targets and objectives. The plan must include detailed tactics with associated costs. Those costs are then totaled and that figure is the required budget.
Regardless of which of the above methods a company chooses to determine its marketing budget, it will likely be limited by available funds, regardless of its needs, objectives or how much revenue it is expecting to make or has made. Limiting factors are a fact of life, but companies cannot forget the link between promotion and revenue. A budget should be determined by following an objective, well-reasoned process that makes available the resources a company needs to succeed.
Check back on February 23, 2016 for a follow-up article about what most companies spend on sales and marketing.