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Total Cost of Ownership Needed to Grasp Relationship ROI

  |  October 4, 2013   |  Comments

As advertising shifts from big splashes toward ongoing conversations, we need a TCO approach to better understand relationship ROI.

I did a project a while back for a solar energy company. The fact of the matter is that having solar panels in your home is really, really expensive. Or, rather, it costs a lot of money to get the solar panels attached to your house and connected to all your outlets. But after that, you begin to immediately start saving money. The amount of money you spent to run your air conditioner, operate your 12 speed adjustable blender and watch "What Does the Fox Say?" goes down dramatically.

Of course, the way to calculate (and rationalize) the expenditure on solar panels is to figure it in terms of Total Cost of Ownership (TCO): the total amount of money that a thing will cost you over a liftetime of use.

Sometimes, TCO works in your favor. The TCO of solar panels should end up showing a benefit, because eventually the amount that you save on energy makes up that initial large cost. Sometimes, TCO runs against you. For example, you may be able to buy an old car for cheap, but you will spend thousands on maintenance and upkeep. Either way, TCO is a much clearer view of the overall cost of something since it is a larger view than just the initial cost.

Why We Need a TCO Model to Calculate Relationship ROI

As advertising begins to shift away from big splashes (like primetime TV spots) and toward ongoing conversations with consumers, I am beginning to think that we should take a TCO approach to understanding relationship ROI.

We, as brands and advertisers, will spend a certain amount of money in the capturing of a new customer, whether through an email or a banner or a video spot. However, that cost often is not the only money we will spend on that person and (quite importantly) his or her initial spend may not either be the total money that we get out nor will be the only source of value.

I propose that we take a longer view of the consumers we bring in. Please note, I am not really talking about Lifetime Value. LTV is most frequently thought of as the future purchases that we can anticipate from a particular person. I am talking more holistically: a net cost that comes from bringing someone into the brand. That is, we should look at not only revenue, but costs and potential savings.

Here is a short list of the factors, organized in that way: revenue, costs and savings.

Understanding Current and Future Revenue

This is a pretty easy factor to consider, if not to precisely calculate. If you sell a service, than this is straightforward. How much revenue will a new person bring in, on a recurring basis? You know this, of course, because you are already charging $19.95 a month (or whatever). The slightly more challenging thing to figure out is the likelihood that that person will renew their subscription or membership at the end of the term. You should be able to figure that out by looking deeply at your data and seeing how often people renew and apply that formula.

There are the upsells and cross-sells, though. What is your likelihood of convincing this new person to buy a different or enhanced service from you? The answer to that, again, should be findable within your data.

If you sell a product, future revenue is a bit more complex. You may be able to find this inside of your performance data, but just know that each time you make a pitch to this person, it is a distinct sale. That is, the revenue is never passive, but always active and therefore comes with a cost.

What is the Cost of a Relationship?

This is where things get interesting. In a new world of advertising, we are bringing people into relationships where they may not actually spend any money. We may be subsidizing their initial purchase with the understanding that we have them within a contract or plan that will generate revenue over time (such as a smart phone contract). There is also the so-called Freemium model, where we totally give away the thing or service in hopes of generating revenue from an engaged user.

This is the way that a lot of games are built. A game like the increasingly-popular Clash of Clans seems to turn traditional thinking on its head. The game is free to download and play and the makers spend money advertising it. They are paying to get players, which then cost them money. But you know the rest of the story: for players to truly succeed in the game, they need to buy gems, which cost actual money. The way that the makers of Clash of Clans think about their advertising spend should be closer to the way people think about buying solar panels.

Savings Not Always Immediately Apparent

This, ultimately, is why TCO is the best way to think about the value being generated from bringing in a new customer. Because of the massively social aspect of media, customers generate value not only from giving you money, but also by giving you new leads. To take Clash of Clans as an example, again, the heart of the game is the formation of clans--groups of people that work together in the world. It is extremely compelling and easy to invite all of your friends to help you attack and build and conquer. So, of course you are consistently reaching out to others and getting them to join. That is, they are doing the marketing for you.

This is the classic viral marketing story. But consider the Clash of Clans economy. Consider two potential players. One plays the game, spends $20 on gems, but doesn't invite any friends. The other plays the game, spends nothing (because that is an option), but invites 50 friends and 5 of them spend $5 on gems.

It's a bit of a trick question, honestly. Both are valuable, but in markedly different ways. In the first example, it totally makes sense to spend money on acquiring that customer. In the second, it also makes sense to acquire that customer. In fact, it makes $5 more sense. But the only way you would realize this is if you took that TCO approach to understanding the value being generated by him.

This is our new economy and our new world; it's how we must think of the relationships we're building with our audience, not only our customers. It is an understanding that people may be valuable to us, even if they don't spend money, or they don't spend money right away.

Do you think a TCO perspective could benefit you in your business? Share your thoughts in the comments.

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ABOUT THE AUTHOR

Gary Stein

Gary Stein is SVP, strategy and planning in iCrossing's San Francisco office. He has been working in marketing for more than a decade. Gary lives in San Francisco with his family. Follow him on Twitter: @garyst3in. The opinions expressed in Gary's columns are his alone.

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