Track Your Company’s Profitability Potential with this Simple Formula

Raise your hand if your growth team is still enforcing the “growth-at-all-costs” approach in your strategy.

Hey, we’re not judging!

The biggest and the best brands have been using this approach (and thriving) for quite a few years now, and have experienced double, to triple-digit growth as a result. Pretty impressive if you ask me—that is—assuming you’re solely looking at growth projections and NOT long-term profitability.

Now, before I get into why growth-at-all-costs needs to be phased out, let’s be honest—profitability is what keeps the lights on! This is why we decided to write about this insanely simple formula, to help you and your team keep track of the profitability of your growth strategy. Instead of quickly scrolling down to see it, I recommend you continue reading this post, for more context.

Growth-at-all-costs lost its sparkle

Growth-at-all-costs lost the power it once had, due to the barrage of market changes. I’m talking about everything from changing consumer behaviors and expectations to restrictions and limitations from ad networks and operating systems. That ultimately leads to valuations shrinking, because the numbers don’t add up. Massive growth can no longer come at the cost of poor unit economics.

I know I know… high acquisition numbers sound good, but not when there are high churn rates and low retention rates that follow. That ultimately drives acquisition costs even higher than they already are. And believe me, investors are taking notice. As stated in a Fast Company post, “The more a company matures in the post-pandemic world, the more their investors will keep a close eye on the bottom line. They will expect to see that those founders have a clear plan to pave the way to positive ROI and profitability.” This is because the success of a business doesn’t rest on growth alone. There needs to be a positive relationship between growth and profitability—particularly, sustainable profitability.

Variables that can affect profitability

There are many variables that are more/less tied to growth efforts, which affect profitability by either increasing marketing burn, decreasing net new ARR, or even increasing both but at disproportionate rates. This includes challenges tied to long conversion funnels, high CAC, churn rates, and volatility in users’ LTV.

Now let’s get back to the main point. 😇

The bottom line is that it has become increasingly important for profitability to be at the heart of marketing and growth strategies. But how is one supposed to even begin gauging their marketing profitability potential? By reading the next part of this post! 😆

How to measure marketing profitability potential

As we see it, the marketing profitability potential comes down to the ratio between how much money you have available to expand into your marketing, and how long it will take you to see a profit on every dollar that was invested.

I’ll start with the formula, and then dive into the details.

Marketing Expansion Multiple (Current Marketing Spend) = Available Marketing Capital/budget till recycling (Current Marketing Spend)

Available Marketing Capital – available budget (money you have in the bank) to expand your marketing efforts. For this post, we’ll assume you have $3M available to further fuel your marketing efforts.

Budget till recycling – The budget you need to secure your ongoing marketing efforts until the revenue they generate is enough to refuel your payback cycle.

Current Marketing Spend * Predicted Payback Period

Current Marketing Spend – your average monthly marketing spend – For this post, we’ll assume it’s $100K

Predicted Payback Period (let’s make life easier by calling it PPP) – the maturity in which net revenue equals the marketing spend (could be based on historical averages, or predictions, the second option is better 🙂 )

Some typical PPP

●       SaaS 18-48 months

●       D2C 4-12 months

●       Casual Gaming 6-18 months

●       eCOM 1-3 months

For this post, we’ll assume it’s six months.

Your budget till recycling is $100K * 6 = $600K

Marketing Expansion Multiple = Available Marketing Capital/ Budget till recycling

Marketing Expansion Multiple = $3M / $600K = 5X

Or if you you are spending $200K / m

Marketing Expansion Multiple = $3M / $1.2M = 2.5X

So you expansion multiple is relative to your current spend (and you capital)

For companies in the growth stage these are some reasonably good rules of thumb:

*****If your PPP is infinite (or NA) – your marketing efforts are not profitable

The multifaceted marketing expansion multiple

The marketing expansion multiple is awesome because it’s a catch-all metric. Any major issues that potentially come up along the way will impact the marketing expansion multiple in some way shape or form.

Here are some examples to further demonstrate…

●       Sales efficiency issue — If your sales productivity is diminishing, or the CAC is prohibitive, marketing burn will increase relative to new ARR. Ultimately, this will cause the marketing expansion multiple to worsen, despite the fact that growth is continuing.

●       Gross margin issues — If your company is spending too much on COGS in order to deliver the product or service, your burn will increase rapidly as it scales. If there isn’t any operating leverage in the business, the marketing expansion multiple will not improve with scale.

●       Churn-related issues — Churn will always net against the denominator of the marketing expansion multiple, thereby causing the multiple to decrease. It will be hard to grow efficiently if there is excessive churn.

●       Growth-related issues — If your growth is stalling, you might consider compensating by spending more on marketing, giveaways, discounts, or promotions. Such efforts will be picked up in the form of a lower marketing expansion multiple, due to the fact that the marketing burn rate is rising faster than new sales.

All in all, you have nothing to lose, and so much to gain by determining your marketing profitability potential by calculating your marketing expansion multiple. There’s so much power in this formula: Marketing Expansion Multiple = expansion potential/budget till recycling

There are plenty of other tips, tricks, and formulas you can easily make use of, to make the most of your marketing budget. Check ‘em out by visiting our blog!