Many conventional marketers depict the progression from prospect to buyer as a funnel starting with impressions at the top and working down through the sales cycle to responses, leads, qualified leads and finally buyers. This approach tells a top-to-bottom chronological story of the promotion process.
But turning the funnel upside down provides a much more useful approach to planning ROI. It has its roots in the fundamental principles of direct response: customer lifetime value (LTV) and allowable acquisition cost (AAC).
You can start out at the top of the upside-down funnel using your customer lifetime value, or if you’re interested in getting a specific return on a short-term promotion, you can use the value of a one-time transaction. Either way, you’re starting with the value of a customer — be it short-term or long-term.
Once you determine a revenue point to work with, set a target ROI and calculate your AAC (allowable acquisition cost). For this illustration, let’s assume that the transaction is worth $200 and our target ROI at 2:1. This results in an AAC of $100; that is, the amount we can spend to get the transaction.
As you move to the lower portions of the upside-down funnel, you apply assumptions about the conversion rates at each stage. You may have some historical data on which to base these assumptions, but if you don’t apply industry standards or make educated guesstimates. Ultimately, you’ll learn what the actual rates are in a well-constructed test scenario. For example, if you assume that 30 percent of all qualified leads will convert to buyers, then the allowable cost per qualified lead is $30.
Similarly, you can calculate the allowable cost per lead, cost per response and cost per impression all the way to the base of the upside-down funnel. So if you estimate that two-thirds of your leads will be qualified, your allowable cost per lead is $20, and so on.
As you reach the bottom of the upside-down funnel, you can determine the required response rates from each medium under consideration. You can either make an assumption about the percentage of clicks, calls or responses that will turn into leads, or you can go straight to calculating the number of leads you need from each medium based on the media cost as shown here.
- Divide the cost of the media by the allowable lead cost to determine the number of leads required from each medium
- Divide the number of leads required by the circulation or number of impressions associated with that medium
(These calculations can also be done on a CPM basis).
Then, do a gut-check. Is that response rate realistic? Don’t know? Test it. A carefully controlled small test will quantify your assumptions at each point of the upside-down funnel.