We’re just going to say it. Knowing your cost per lead (CPL) without your maximum cost per lead is a vanity metric.
CPL doesn’t matter until you determine what it needs to be. You need to find the right CPL that generates profit.
That statement might seem obvious. Of course, calculating your CPL is about profit. Unfortunately, many B2B service companies simply use the numbers that they are currently spending on marketing to calculate their CPL.
While these numbers will show you what you are spending per lead, they are not indicators of profitability, success, or failure. So let’s look at CPL in a different way.
If you don’t know what your maximum CPL is, how do you measure the success or failure of a campaign? How do you budget properly? With a maximum CPL, you can begin to evaluate the effectiveness of your marketing campaigns and make informed decisions on which channels provide the best ROI.
Determining maximum CPL can seem simple, but this process requires calculating, strategizing, evaluating, and revaluating.
How to Calculate Maximum CPL
Here is the equation that will produce your maximum CPL.
Determining this number is the key to properly scaling your marketing budget, improving sales, and increasing profit margins.
Wait! before you just plug in your numbers and run the calculation, you’ll need more details to ensure you’re plugging in the correct numbers.
Before adding those details, we’ll need to include some definitions and background.
First, the Principles
Like every process or building project, you must have a solid foundation for success.
Here are the pieces you will need to note or build before calculating your maximum CPL.
1. It’s Specific
This calculation process is specifically designed for service companies that anticipate long-term, sustained customer retention. If you have high churn, you’d need to approach this calculation differently.
2. It’s Retroactive
These numbers should not be estimated or made up. Calculation of your CPL can’t simply be an intellectual or hypothetical exercise. Everything should be based on a previous time frame of results. If you’re looking at the CPL you want to hit for 2022, look at 2021 data to determine your stats and numbers. You can determine a hypothetical, but the real value is in knowing your current CPL.
3. It’s Collaborative
A marketing department can’t make this calculation alone. You will need to interact with your sales and finance departments and your business’s leadership to determine many of the numbers and percentages here. While marketers mainly utilize CPL, others need to be involved in its creation and should be tracking it.
The following sections will give further background and detail on each part of the calculation. We will also include an example numerical amount or percentage for each section. These example figures will be used in a demonstration calculation below.
What is a Lead?
From our expert perspective, a lead, whether you’re talking inbound or outbound, should be a legitimate marketing qualified lead.
Here’s a quick reference of a HubSpot definition for our convenience and your edification:
This definition doesn’t mention that your criteria should be more than just what types of interactions happened. You should know if the lead or person that interacted is part of your target audience.
For example, you have an ebook about your digital media buying service on your service site. You might gain multiple leads or people who gave their contact info in exchange for that ebook.
However, you examine their contact information and determine those leads are from your company owner that is considering purchasing your media buying service. That is an MQL. It’s not a lead from a clueless intern from that same company trying to learn more about media buying.
Your sales revenue needs to be considered from several angles based on your type of business.
First, this number is your sales revenue per deal, sale, or customer. Another way to say it: your sales revenue is your business’s average deal size.
Second, your sales revenue needs to be based on your customer lifetime value (CLV), not your MRR or monthly recurring revenue. Unfortunately, this is where so many B2B service businesses make their first and most costly mistakes.
Knowing and improving your average customer lifetime or retention is so crucial. So many service businesses determine their whole marketing strategy based on new customer acquisition or increasing their MRR. We are to tell you that focusing on your customer’s lifetime value is what will generate an accurate CPL and, therefore, more profit. Not the number based on a customer’s payment next month or the next cheque you get.
This number is perhaps the most important one in this process. Work internally to determine how long you typically retain clients and the average monthly payment you receive from your clients. That’s your CLV.
For our purposes, we will say that the average customer retention time is two years and the charge per month is $2000. This means the CLV would be $48,000.
Sales Revenue = $48000
Cost of Goods Sold (COGS)
This amount is straightforward since this calculation is for a service, the percentage here would be typically the cost of labor in service hours to complete the tasks.
COGS = 50%
This percentage will include amounts like operating costs, taxes, etc. Communicate internally with another department to calculate this percentage.
We’ll set it at a decent 25% for our demo calculation.
Sales Overhead= 15%
Desired Profit Margin
How much profit would you like to generate? Once again, internal collaboration is needed. This percentage needs to be realistic. Our example will call it 15%.
Profit Margin = 15%
This final piece to the puzzle needs to be defined carefully. Conversion means leads to a customer here. For our demonstration, the conversion rate will be 1 out of every 5 leads becomes a customer or sale.
Conversion Rate = 20%
Let’s crunch the numbers listed above! Remember the formula: Cost Per Lead = Sales Revenue – (Cost of Goods or Services Sold – Sales Overhead – Desired Profit Margin) * Conversion Rate
$48000 – 80% (50%-15%-15%) * 20%= $1,920
And there you have it. Your maximum CPL is $1,920. Your business can move forward with a marketing strategy with this number with confidence that closing deals at this CPL will drive sustainable growth for your company.
What if my CPL is High?
You may have run the numbers and found that your CPL is higher than you had hoped, or you are not getting the cost in the right place for that sustainable growth. What should you do? I would propose three things.
First, look at your overall cost structures and numbers. If you are not on the brink of going out of business, something is working and the numbers are off. Maybe your COGS are high, or your overhead is overestimated. Maybe you don’t make much profit now. The point is, if you are surviving on a higher CPL, you might have just miscalculated and you can deal with a higher CPL and work towards a lower one.
Second, Make sure you are factoring in the lifetime value of your customer. The biggest variable in the equation is the overall sales value. If you undercut that by 20% it could have a huge impact on your CPL. Make sure you are really giving grace to your CLV by looking backward and getting a real average.
Want more help with your CPL?
The calculation and all its components we’ve discussed here are an excellent place to start – but if you want to make the most out of your CPL and move towards increased profit margins, let’s talk.
At New North, we’ve helped dozens of B2B service businesses with goals like lead generation, CPL calculation, and utilization. Schedule a free consultation today.