BEST ECOMMERCE TOOLS FOR PAID MEDIA PLANNING
Question: The second question is, it comes from Quora as well and it’s asking what are the sources or tools which can help me to make estimated online advertising budgets for e-commerce sites?
John: Didn’t we build one of those? Aren’t we building those right now?
John Max: Yes.
John: I don’t know if it’s done yet? Is it done?
John Max: Yeah, the M.V.P. of it, so we’ll have, in the description below, a link to that Google sheet download and this is something that it’s an equation that you built and built, you know, a hundred-million-dollar e-commerce business off of the back of, and so…
John: How often do you see this equation, first of all? You work, you work with me, you see it daily?
John Max: It’s, it, it’s on the…whenever we start talking about marketing, whether it be internal or external, for helping other companies doing some consulting work, things that nature, the first thing we clean the board off and then you write the equation at the top. And so, we’re going to, Joe we’re going to put this on so…we’re going to put this on the screen, so walk us through.
John: Is it going to be like right here? Like right in front of here? Or here? where? you know?
John Max: We will put it here and then it will stay up there.
John: Like flashing in front of my face? So, the first thing you have to look at is… Let’s say you are doing pay-per-click advertising, we need to know how much each visitor is going to make you in terms of profit. So the way we calculate is pretty simplistic and there are other things that go into, but in its general form, there are about five or six things that go into this equation, so the first thing you start with is your average order value, and that’s simply the average ticket, how much money each customer gives you on an average transaction. So let’s say it’s one hundred bucks, and you take from the hundred dollars your cost of goods sold so let’s say it’s fifty dollars to buy the product or if you really go and build your own you’re vertically integrated, maybe it’s twenty dollars instead of fifty, and then fulfilment cost, and there are a couple different ways you could look at fulfilment cost. You look at as a true variable cost and say well ‘this is the cost of the box, this is the cost of the postage’ but what I like to do is add in some more things, so all the all the fixed overhead of fulfilling all your orders and divide it by the number of orders, that include your customer service, your rent, your warehouse, it includes the carry-cost of your inventory, so a bunch of different things, so it’s really the first three variables there and if you take those, average order value minus cost of goods sold minus fulfilment cost, that’s really the contribution margin you make off of an individual sale. So, let’s say one hundred dollars minus fifty dollars minus ten dollars, well you’re making forty dollars of contribution margin percent. Well that’s great, that’s a per-sale basis, now we need to get it into a per-visit basis, so the next variable is conversion rate, so what percentage out of one hundred, how many people, out of one hundred, are going to buy this product? And you have to do this, multiple times, which I’ll get into, but let’s say it’s 3%, so you have forty dollars in a contribution margin, 3% of the people buy, what’s that dollar twenty per visiting contribution margin that you make great. Then there’s lifetime value, so how many purchases will that one purchaser make? so, if it’s one and done and they never buy from you again and you have a dollar twenty. If they make three purchases on average then you’ve got three dollars and sixty cents, so you can see that the right-hand side of that equation is that is just as valuable, if not more so, and I tell people to focus on that right-side of the equation more so than the first three variables there so conversion rate and lifetime value are the two most optimizable ones.
John Max: And when you’re when you’re calculating for lifetime visits, you need to understand what you can value.
John: What has value, what are lifetime purchases. There’s a difference when you out across all this.
John Max: When you’re calculating that, you need to keep into context how long you can survive as a business, because if you if you know that your average consumer is going to purchase for your four times, but each purchase is spread three years apart, and you’re not going to live past that three years…
John: OK, cash flow chart, you have to invest, usually two rules in this, so if you look at your customer acquisition cost versus your lifetime value, is at least have to have a three to one ratio would be…and optimally, even better I’ve seen some e-com businesses with a nine and ten to one ratios on that, and the second caveat is, it has to pay back in a year, so if you are a subscription service and if you have a limited amount of capital, you really should look at the twelve…first twelve months of that. So now take that equation, there’s five variables in there and let’s make it a little more complex, so let’s say you’re advertising on a thousand different keywords on Google, well you have to do that equation a thousand different times, because each cure is going to generate a) different average order value, b) a different conversion rate so someone Googles Buy My Product, But Cowboy Boot, Buy, Red Cowboy Boot, but they’re getting flow at a pretty high level, if they, on the other hand, say what are the best boots or something similar, it’ll be less. So, you have to do that same equation a thousand times if you have a thousand different keywords and the lifetime value is different as well too.
John Max: And then attach a multiplier based on the…based on where they’re at in the buyer’s journey, so if they’re for Country Outfitter’s for example, they’re looking at Country Outfitter Red Boot, you can bid, you know, x amount of time on that versus What Boot Did Carrie Underwood Wear Last Year.
John: Exactly, so you look at the shopping funnel, we look at those four phases so the bottom…the closer they are to the fourth phase, where they actually pull out their credit card, usually more you can build. And what’s interesting on this is there’s another way you can change is equation, so we talked about the per-visit value, well what if you can get them to come visit10 different times, 10 additional times and each time they come back they have a one percent conversion rate, so that’s another huge multiplier. So take those five variables put them in a bracket, multiply it times number of visits and you have to think I’m crazy, because most e-commerce sites you go there a one and you’re done and you never come back, so your per-visit multiplier should, in most cases, be 1, but what if you get their email address and what if you’re e-mail content is really super engaging? And, on average anyone that gives you their email address, and you get seventy or eighty percent of people to give you their email address, they come back 10 or 12 or 15 times, well you just won the game, you just completely change the equation for your favour, so if you take our old example: hundred dollar purchase minus fifty dollars cost of goods minus ten dollars for fulfilment cost that’s forty bucks times a 3% conversion rate was that $1.20, three lifetime purchases is $3.60 and the math is going to be totally wrong.
John Max: I’m glad you can this math totally in your head.
John: so you are at $3.60, if then let’s say they come back on average, 10 times, you convert 10% of your initial visitors into buyers there’s 36 bucks, boy, you can buy…you can arbitrage really good traffic there, and if the maths wrong, we’ll fix it in the post edit it it’ll look right just ignore the numbers I say and that’s a look at the ones a pop on the screen.
John Max: I just see I get a sad face of Joe popping up right now for video editing.
John: I know, poor Joe, poor Joe’s back behind the camera he’s got a gun and he’s angry with me.
John Max: and you use this so, it’s a lot of that is built for P.P.C.
John Max: but you can use exact same math for Facebook, for Instagram.
John Max: You just have to you have to add in the entire funnel and then you have to test it, I mean, I mean ultimately, you know it’s…this is a, this is a great baseline and it speaks to the fact that the better you are at the right-side of the equation, the more you can spend to acquire a customer and the more you can spend to acquire customer, the better business you’re going to have ultimately.
John: Well the right-side’s the multiplier, right? You can do exponential growth there, if you focus on the left-hand side or the first three variables there, so imagine
John Max: You can totally beat out a distributor so much.
John: right, yeah, so your average order value is one hundred bucks, well let’s cross-sell, let’s up-sell, great idea but you’re only going to take that one hundred ten or one hundred five or maybe even a hundred and fifteen if you good, cost of goods right, go call your manufacture, beat him up, tell him you want the best prices, please do that, that’s just operationally-sound business.
John Max: Every three months.
John: Yeah, exactly and you’re not going to get them from fifty to ten, you know from fifty to forty-five or fifty to forty-eight or fifty to forty-nine, so not a huge multiplier, do the math, and then fulfilment cost, yeah, great call U.P.S., call FedEx, good luck, and you’re not going to have any luck beating them up, within reason, I mean you might be able to…I mean, when we grew to one hundred million dollars revenue we were able to cut our shipping costs almost in half, but you’re not going to be able to do that unless you got the so
John Max: And I think that the last part of it is, is, when you look at it from this equation, it’s the same thing like when you, when you’re working in a start-up how…what is the, what is the greatest opportunity to ten X or hundred X what I’m doing right with the effort I’m going to put in, because you’re going to put in just as much effort, calling and beating up your distributor as you are crunching your data and your numbers to figure out how to either increase your website conversion, increase your lifetime visits, so where you have to ruthlessly prioritize across this algorithm, across this metric to find the greatest opportunity to exponentially increase your success and then you go to the next greatest opportunity, then you go back down from there.
John: But if you look at every e-commerce unicorn, and there’s been several, all of them have something, you know to start they all have decent gross margins, OK, you’re not going to find, for the most part, maybe Jet’s the exception there, but I mean they are, you know, another story for another day, but the so you have decent gross margins but every single one of the e-commerce unicorns, look at Warby Parker, an honest company, and Casper and a few others every one of them have one of those three multipliers something special, a lifetime value, the Dollar Shave Club has a tremendous number of lifetime number of purchases, conversion rate, a good examples of that abound, and then lifetime revisits, look at every single e-commerce site they get your e-mail address and then followed up with a really good email flow after.