Why You Shouldn't Rely on Cost-Per-Lead

About once a month, I'm publishing a post that shares insights I've discovered at another blog. This month, the insight comes from ViewPoint l The Truth About Lead Generation. The primary author of this blog is Dan McDade whose firm (PointClear) provides lead generation services to B2B companies.

Earlier this year, McCade wrote a series of three posts discussing The Cost-Per-Lead Fallacy in Measuring B2B Lead Generation Investments. Here are the links to the three posts:

• Part 1
• Part 2
• Part 3

All of these posts contain excellent information, and I highly recommend them. Here are a few highlights.

McDade argues that it's a big mistake to use cost-per-lead as the primary basis for managing and measuring B2B lead generation investments. As he puts it, "This metric rewards the wrong behavior, delivers low-value sales leads, and fails to deliver the kind of business intelligence needed to drive marketing ROI now and in the future."

McDade goes on to identify several specific shortcomings of cost-per-lead as the primary lead generation metric.

• Emphasizing cost-per-lead encourages marketing to deliver high volumes of low quality sales leads.
• Cost-per-lead focuses on costs rather than on the value or ROI produced by marketing efforts.
• In most companies, cost-per-lead is used primarily to measure the cost of early-stage leads. Rarely is cost-per-lead used for late-stage leads such as "sales accepted" leads or "sales qualified" leads. When cost-per-lead is used only for early-stage leads, it is not an effective way to measure outcomes.

I completely agree with most of Dan McDade's criticisms of cost-per-lead, and I would add one of my own. There is nothing inherently wrong with measuring cost-per-lead, but problems will arise if cost-per-lead is misused or used in isolation.

In my last two posts (here and here), I discussed how to calculate the value of leads at every stage of the demand generation process. If you know the value of your leads at multiple stages, then measuring the cost of leads at those same stages can provide useful information about the performance of your lead generation activities and programs. If you don't know the value of your leads, measuring the cost of your leads is mostly a waste of time. The information you generate won't enable you to make better decisions, and it may lead you to make choices that will do more harm than good.

How Much are Your Sales Leads Worth? - Part 2

In my last post, I discussed why B2B marketing and sales professionals need to have a clear and accurate understanding of lead value. I also described the first two steps of a four-step process for determining the value of sales leads - estimating the lifetime value of a new customer and calculating the maximum amount that you should invest to acquire a new customer. In this post, I'll cover the final two steps of the valuation process and describe how to use this data to determine the value of sales leads at any desired stage of the demand generation pipeline.

To illustrate how this process works, I'm using an example of a company that provides marketing asset management (MAM) solutions to corporate customers. So far, we have calculated the customer lifetime value of a new MAM customer ($135,000) and the maximum amount the company should invest to acquire a new MAM customer ($117,000).

Identify Lead Stages and Conversion Rates

The next step in the process is to decide what lead stages you want to use in your lead value model and identify the rates at which leads convert from one stage to the next. To be absolutely clear, the "lead value" we are calculating is equal to the maximum amount that a business should spend to acquire or develop a sales lead at a given lead stage. With this approach, the value of a lead is a function of two factors - the maximum amount you should spend to acquire a new customer and the rate at which leads at a given stage convert to become customers.

To illustrate this process, lets add some facts to the example we used in the last post. Companies define lead stages in a variety of ways, but one of the most widely-used frameworks is the demand waterfall developed by marketing and sales research firm SiriusDecisions. We'll assume that our hypothetical MAM company uses this framework to describe its lead stages. The table below shows the major stages that are included in the SiriusDecisions framework.

Stage
 Customer
alue
This table also shows the rates at which leads "convert" from one lead stage to the next. These conversion rates were developed by SiriusDecisions, and they describe the conversion rates of an average-performing B2B company. The table shows that 4.4% of inquires will become marketing qualified leads, 66% of marketing qualified leads will become sales accepted leads, 49% of sales accepted leads will become sales qualified leads, and 20% of sales qualified leads will become new customers. Your conversion rates will differ those shown in the table, and it's critical to use your rates for calculating the value of your sales leads.

Calculate Lead Value

To calculate lead value, you first need to determine how many leads are required at each of your lead stages to produce one new customer. These amounts will depend on your lead conversion rates. For example, the above table shows that the conversion rate for sales qualified leads to new customers is 20%. Therefore, it takes 5 sales qualified leads to result in the acquisition of one new customer (1/.20). Likewise, the table shows that the conversion rate for sales accepted leads to sales qualified leads is 49%. So, it takes 10.2 sales accepted leads to produce 5 sales qualified leads (5/.49). This also means that it takes 10.2 sales accepted leads to produce one new customer.

Once you've determined now many leads are required at each lead stage to produce one new customer, calculating the lead value is easy. You simply divide your maximum allowable investment for one new customer by the number of leads required to produce one new customer. As the above table shows, the value of sales leads for our example MAM company are as follows:

• Sales Qualified Leads = $23,400 ($117,000/5)
• Sales Accepted Leads = $11,466 ($117,000/10.2)
• Marketing Qualified Leads = $7,568 ($117,000/15.5)
• Inquiries = $333 ($117,000/351.4)

This model clearly demonstrates that leads increase significantly in value as they move through the demand generation pipeline. In our example, a late-stage Sales Qualified Lead is about 70 times more valuable than an early-stage Inquiry. This dramatic increase in value provides strong justification for investing in effective lead nurturing programs that will move prospects through the pipeline.

I've recently published a white paper that explains the process for calculating lead value. If you'd like a copy of this paper, send an e-mail to ddodd(at)pointbalance(dot)com.

How Much are Your Sales Leads Really Worth?

Every day, marketing and sales professionals in thousands of B2B companies make significant investments to acquire and develop sales leads. The ultimate objective is to grow revenues and profits by winning new customers. Unfortunately, these investment decisions are often made without a clear and accurate understanding of how valuable leads actually are. When marketing and sales leaders don't know the true value of their sales leads, they can invest too little and miss out on profitable new revenues, or they can invest too much and acquire customers that are unprofitable.

Knowing the true value of sales leads is particularly important for B2B companies with long and complex demand generation cycles. In these situations, the purchase decision is the end result of a buying process that contains multiple steps and often extends over a period of several months. Demand generation investments must be made to acquire new leads, and additional investments are required to move those leads through the revenue pipeline. To manage demand generation spending effectively, you need to know the value of leads at various stages of the process.

Determining the value of sales leads is a four-step process. In this post, I'll discuss the first two steps, and I'll cover the last two steps in my next post.

Estimate Customer Lifetime Value

The first step in determining the value of sales leads is to estimate the value of a new customer for your business. Customer value establishes the ceiling for how much you should invest  to acquire a new customer because new customers will contribute to profitable growth only if the value they create exceeds the costs you incur to acquire them. For this purpose, value means customer lifetime value, which can be defined as the present value of the total profits that a company expects to earn from a customer over the full duration of the customer relationship.

There are several methods for calculating customer lifetime value. One of the more simple formulas is:

CLV = m(r/(1+i-r))

where CLV = customer lifetime value
                m = annual gross profit
                 r =  customer retention rate
                 i = discount rate

We can use a simple example to illustrate how the formula works. Suppose that your comany sells marketing asset management (MAM) solutions to corporate customers. The average new MAM customer produces annual gross revenues of $100,000 and an annual gross profit of $30,000. Your customer retention rate for new MAM customers is 90%, and your discount rate is 10%. If we insert these values into the formula, the calculation would be:

CLV = $30,000(.9/(1+.1-.9))
CLV = $30,000(.9/.2)
CLV = $30,000(4.5)
CLV = $135,000

On these facts, therefore, each new MAM customer that you acquire is worth $135,000 to your company.

Calculate the Maximum Allowable Investment

As I noted earlier, the value of a new customer sets the ceiling for how much you can spend to acquire that customer without diluting company profits. However, when customer acquisition costs are equal to customer lifetime value, your company will not earn a return on your acquisition investment. Therefore, it's important to determine how much you can spend to acquire a new customer and earn an acceptable return on your acquisition investment. I call this the maximum allowable investment.

The formula for calculating the maximum allowable investment is:

Maximum allowable investment = CLV/(1+ROI Threshhold)

In this formula, CLV is the customer lifetime value, and ROI Threshhold is your minimum acceptable ROI on demand generation investments. If we assume that your ROI Threshhold is 15%, the maximum allowable investment would be calculated as follows:

Maximum allowable investment = $135,000/(1+.15)
Maximum allowable investment = $135,000/1.15
Maximum allowable investment = $117,391.30

So, in this example, the most you should spend to acquire a new MAM customer is approximately $117,000.

In my next post, I'll discuss the final two steps in the process for calculating lead value. I've recently published a white paper that explains this process in greater detail. If you'd like a copy of this white paper, send an e-mail to ddodd(at)pointbalance(dot)com.

The Least Understood Aspect of B2B Buying

At the most basic level, successful B2B marketing and sales depend largely on having solid answers to four questions:

• Why do companies and businesspeople buy products or services like those we provide?
• How do our products or services create value for our customers?
• What differentiates our products or services from similar offerings provided by our competitors?
• How do our prospects make buying decisions?

If you have accurate answers to these questions, you can develop relevant and compelling marketing content and have valuable sales conversations.

Of these four issues, most B2B marketers and salespeople have the least understanding of how prospects actually make buying decisions. In the 2012 Sales Performance Optimization survey by CSO Insights, only 12% of respondents said they have a thorough understanding of their customer's buying process. Understanding how your prospects buy is important because it directly impacts marketing and sales performance. CSO Insights says that a theoretical sales organization that moves from "needs improvement" to "exceeds expectations" in its understanding of the customer's buying process would increase its "win" rate from 42% to 58%.

The reality is, the B2B buying process is a complex thing, particularly when a major solution-type purchase is on the table. Most of the models we use make the decision-making process appear to be less complicated than it actually is. For example, the SiriusDecisions model that is shown below is a great high-level representation of the B2B buying process. I've used it several times in this blog to illustrate various points. However, the SiriusDecisions model doesn't really reveal the complexity of the process. There's a great deal going on in those steps called, "loosening of the status quo" and "committing to change."

What our models don't make clear is that the B2B buying process is really a change management process when a major solution-type purchase is involved. The buying process we are familiar with occurs within a change management process that is rarely understood well. The diagram below illustrates this point.

The issues involved in the change management process relate almost entirely to the prospect organization, and most have very little to do with the selling company or its products or services. However, unless these change management issues are resolved satisfactorily, no purchase will be made. Every prospect organization will have a unique set of change management issues, but there are four issues that arise in most buying organizations.

• How will the proposed change affect the existing organizational "system" (people, processes, and technology)?
• Who must be involved in the decision to change?
• Can the problem or need that is driving the consideration of change be addressed using internal resources?
• What issues or concerns must be addressed in order to get buy-in from all necessary parties?

Sharon Drew Morgen, the author of Dirty Little Secrets: Why Buyers Can't Buy and Sellers Can't Sell, and What You Can Do About It and Selling with Integrity: Reinventing Sales Through Collaboration, Respect, and Serving, has written extensively about the relationship between change management and the B2B buying process. If you want to learn about this topic in detail, get your hands on one of Ms. Morgen's books.

From a marketing perspective, the important point here is that you need to provide marketing content that helps prospects work through their change management issues. Some examples could include:

• A white paper or calculator tool that helps prospects understand the true cost of their status quo
• A white paper that describes the challenges involved in developing an internal solution
• A case study that demonstrates how your solution can be implemented with minimal disruption of existing operations

For marketing and sales professionals, the important thing to remember is that helping B2B prospects buy is really about helping those prospects change.