I recently received this email from a colleague who runs marketing for a security software company:
I’m getting some pushback from my CFO on the size of my proposed total marketing budget as % of forecasted revenue… Do you have any sources with basic credibility with this info that I can cite?
Selling your marketing budget to other executives is a common problem faced by B2B marketers, and looking at marketing spend as a percent of revenue (i.e. the Marketing Budget Ratio) is the most common way to set and justify marketing spend. It is an easy approach, and as “Mac” McIntosh points out, it is certainly better than just taking last year’s budget and subjectively adding or cutting based on what you think worked.
As I wrote last October in Benchmarking Marketing Budgets, there are some good sources of information about average Marketing Budget Ratios (MBR). One is IDC’s annual Marketing Investment Planner, which analyzes technology marketing spending based on a survey of 95 large tech companies. In 2005 IDC reported an average MBR of 3.6% of revenue on marketing, with software vendors spending the most at 6.5%, hardware makers spending 3.7%, and IT service firms at 1.1% percent. MarketingSherpa also publishes numbers for technology marketers, and SiriusDecisions provides marketing budget information to their clients as well.
Update: November 2008 — For the latest IDC data about marketing budget ratio and other key marketing budget benchmarks, see my post IDC CMO Advisory Practice: Trends, Forecasts, Benchmarks, and Essential Guidance for 2009.
The Problem With Marketing Budget Ratio
The difficulty with the numbers from IDC and others is that they are an average of large tech companies. Many of these companies are in mature markets and some are operated as “cash cow” businesses earning a majority of revenue from maintenance. This skews down the average marketing spend compared to smaller, fast growing companies — companies that typically require a much higher percentage of revenue for marketing.
As an extreme example, take Salesforce.com. According to their financial reports, from February 2000 to January 2001 (the first year of revenue producing operations), Salesforce.com spent $25.4M on Sales and Marketing and earned revenues of $5.4M. Most software companies spend somewhere between two to five times as much on Sales as on Marketing. Assuming the lowest end of the range (a very conservative assumption, considering Salesforce.com’s business model) puts their Marketing spend at $4.2M — which equals 78% of revenue.
Of course, those numbers were not unheard of at the peak of the bubble. This report from December 1999 shows the Marketing Budget Ratios of various Web 1.0 companies, including 90% for Commerce One and 158% for Vertical Net. That said, Saleforce.com’s marketing expense continued to remain high. For their second year of operations (ending Jan 31, 2002) Salesforce.com spent at least 18% of revenue on Marketing — and this was deep in the bubble crash. Even today, Salesforce spends at least 9% of revenue on Marketing, and the MBR could be as high as 17% if we assume the high end of the range (based on the quarter ending Oct 31, 2006).
Besides underestimating marketing spend for growth companies, Marketing Budget Ratio benchmarks can be misleading since they vary widely depending on industry gross margins and the level of competition. If you are going to use MBRs to justify your B2B marketing budget, take care to use comparable companies in terms of size, growth stage, gross margin, and industry competition.
A Better Way: Treat Your Budget Like an Investment
A better way to justify your marketing budget is to think of it as an investment that incurs costs today but delivers benefits for many years. This has two key implications:
- Marketing expenses must be justified with a rigorous business case
- Marketing expenses should be amortized over the entire “useful life” of the expense
In most organizations, any significant investment needs a bottoms-up business case that demonstrates it will deliver a minimum rate of return (called a hurdle rate). If the business case is made, the CFO generally approves it. Marketing spend should not be any different.
Demand generation spending is the easiest marketing investment to tie to ROI. Some programs generate leads, others nurture leads as the move through the marketing funnel. When the leads become ready, they are transferred to sales and become opportunities, some of which eventually close and translate to revenue. With the right marketing measurement tools, the entire process becomes measurable, the interactions between different marketing programs become understandable, and the future return on today’s spending becomes quantifiable.
Other marketing investments, such as brand building and PR, are harder to tie to revenue without making assumptions. But that doesn’t mean you shouldn’t try. Assumptions are common in business-case-building and will be familiar to the CEO and CFO. One common way to get agreement around assumptions is to make “worst case”, “expected case”, and “best case” assumptions to show the range of possible outcomes.
For all types of marketing investment, the returns are usually not immediate and often come months or years down the road. The principle of matching expenses with the revenue generated by means of those expenses implies that marketing investments should be capitalized as an asset and not treated like simple expense items. In other words, the dollars spent on marketing should be amortized over the entire period in which those dollars deliver benefit to the organization.
Thinking of the marketing budget as a long-term investment can be especially important for smaller, fast growing companies. By amortizing investments in brand building, awareness, and pipeline that will pay back over many quarters, the percentage of marketing expense that is recognized in any given quarter will more closely match the current levels of revenue.
By treating your B2B marketing budget like an investment in the future, you can help build the perception that marketing is an asset that drives revenue, not a liability that simply incurs costs.
As important as this is, I am not trying to oversimplify a difficult and complex problem. Making the business case for each marketing investment is easier said than done given the tools and processes available to today’s B2B marketers. My company, Marketo, will continue to research this topic and invest in building B2B marketing software to help. I appreciate hearing any feedback or comments you have.