Assumption 4: CRM Mathematics


To understand the return on investment from CRM, let’s do a little math. We have to start with some basic principles. Customers do respond to communications, offers, and promotions. For the communication to work, however, the seller has to have some sort of established business. He has a product or service to sell and a working distribution channel. In order to use CRM, he has to have a revenue stream (otherwise, where would he get the money to build his warehouse?).

The reason for using CRM is to make incremental increases in the level of sales that is currently being made through mass marketing, retail stores, catalogs, and database marketing. The marketer assumes that if there were just more information about the customer’s decision-making process, it would be possible to increase the sales level (of customers and prospects) by as much as 5 or 10 percent. Let’s say that the marketer is selling some product or service for $150. It could be rental cars, small appliances, or carpets. The marketer contacts 20 million customers per year and has sales of $900 million. The current marketing methods involve mass marketing and direct marketing to customer segments, including a loyalty program. We will assume that of the $150, net profits per sale are 10 percent after deducting all costs, including marketing.

Pricing the CRM Program

We will assume a modest CRM warehouse containing data on 14 million prospects and past customers and 6 million current customers. Let us assume that we can build it for $10 million, including the software for access, with annual maintenance costs of $1.5 million, which include the costs for the staff, NCOA (National Change of Address), and appended external data. Amortized over 3 years, the warehouse will cost us $5.5 million per year, as shown in Table 2-1.

Table 2-1 : Warehouse Cost

Cost

Cost to build warehouse

$10,000,000

Amortize over 3 years

$ 4,000,000

Annual maintenance

$ 1,500,000

Annual cost

$ 5,500,000

Let’s compare this to the cost of database marketing in the same situation, shown in Table 2-2. It costs far less. We are assuming a cost of $1.5 million to build the database. Many databases are built for far less, such as $500,000, and some, of course, cost more. The number $1.5 million is a good number for a large corporate marketing database.

Table 2-2 : Database Cost

Cost

Cost to build database

$1,500,000

Amortize over 3 years

$ 600,000

Annual maintenance

$1,000,000

Annual cost

$1,600,000

Cost of Communications

To these CRM or database costs, we must add the cost of communications with customers and prospects. After all, if we are going to make the right offer to the right customer at the right time, we have to communicate the offer to customers personally, or what is the warehouse for? Let’s assume that our firm has been collecting email names to keep the cost of communications down. It has email names for half of its customers. Table 2-3 shows the total CRM and database cost, assuming an average of only three communications per customer per year. Note that when CRM or database marketing is used properly, some likely customers may get more than four communications a year, and some will get only one.

Table 2-3 : Comparison

Communications

Per year

CRM annual cost

Database annual cost

Quantity

Rate

DB/warehouse

$5,500,000

$1,600,000

Mail communications

3,000,000

$0.60

2

$3,600,000

$3,600,000

Email communications

3,000,000

$0.04

4

$ 480,000

$ 480,000

CRM/database costs

$9,580,000

$5,680,000

So with these costs in hand, what will be the result of using CRM or database marketing? See Table 2-4.

Table 2-4 : Net Profit

Without CRM or database marketing

With CRM

With database marketing

Customers

6,000,000

6,000,000

6,000,000

Annual sales per customer

$150

$165

$165

Sales

$900,000,000

$990,000,000

$990,000,000

Profit per sale

10%

10%

10%

Gross profit

$90,000,000

$99,000,000

$99,000,000

CRM/database cost

$0

$ 9,580,000

$ 5,680,000

Net profit

$90,000,000

$89,420,000

$93,320,000

Using either CRM or database marketing, we have managed to increase the average sales per customer by 10 percent, to $165. We may have done this by getting some customers to place larger orders, by getting some to place more orders, by reducing the attrition rate, or by a combination of these and other methods. Sales have increased by $90 million, with increased gross profits of $9 million. Unfortunately, when we factor in the cost of CRM, net profits have gone down by $580,000. That is what virtually all companies that installed CRM have discovered. Note that these figures assume that CRM is working—that it is in fact increasing sales by 10 percent. But in many cases, for the reasons given earlier, CRM has no such valuable benefit. In the majority of companies, it does not affect the sales rate at all. Much of the money spent on CRM is wasted. That is the reason for the Gartner Group’s pessimistic conclusion on CRM.

The methods whereby database marketing produces the gains in profit shown in this section are explained in the remaining chapters and case studies in this book. A further discussion of the benefits of a data warehouse is given in Chapter 10, “Customer Management.”




The Customer Loyalty Solution. What Works (and What Doesn't in Customer Loyalty Programs)
The Customer Loyalty Solution : What Works (and What Doesnt) in Customer Loyalty Programs
ISBN: 0071363661
EAN: 2147483647
Year: 2002
Pages: 226

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