ltv and rfm for non profits dma non profit forum friday february 4 2005 10:30 - 11:45 the capitol...
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LTV and RFM for Non ProfitsDMA Non Profit ForumFriday February 4 2005
10:30 - 11:45The Capitol HiltonWashington, DC
Arthur Middleton Hughes
Vice President / Solutions Architect
KnowledgeBase Marketing
2
What KnowledgeBase Marketing Does
3
Two goals today
• Explain how to compute donor lifetime value, and use it to improve marketing strategy
• Explain how RFM works, and how you can use it to improve response rates
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Two Kinds of Database People
Constructors
People who build databases
Merge/Purge, Hardware, Software
Creators
People who understand strategy
Build loyalty and repeat sales
You need both kinds!
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MarketingDatabase
Data AccessAnd Analysis
Software
Customer Transactions
Marketing Staff
Inputs from Retail, Phone, Web
How a modern database marketing system works
AppendedDataWebsite
Lifetime Value
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We can determine the lifetime value of every donor
• Lifetime value is the net revenue we will receive from each donor during his lifetime with our cause
• Using historical data, we can compute this for every donor, and put it in their record.
What is lifetime value?
• Net present value of the profit to be realized on the average new customer during a given number of years.
• To compute it, you must be able to track customers from year to year.
• Main use: To evaluate strategy.
How to use lifetime value• Compute a base lifetime value
• Dream up a new strategy. Estimate the benefits and costs
• Determine whether your new lifetime value goes up or goes down
• Don’t undertake any new strategy until you can prove it will be successful
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Non Profit AcquisitionLifetime Value Year Year 2 Year 3Donors 200,000 70,000 31,500 Retention Rate 35% 45% 55%Acq. Resp Rate 5.0%Gifts per year 1.10 1.30 1.50Average Gift $10.00 $11.00 $12.00Total Revenue $2,200,000 $1,001,000 $567,000
Overhead 20% 20% 20%Overhead Cost $440,000 $200,200 $113,400Acquisition Mail 4,000,000 Appeal Mail 50,000 400,000 400,000 Cost Each $0.42 $0.42 $0.42Mail Costs $1,701,000 $168,000 $168,000Total Costs $2,141,000 $368,200 $281,400
Net Profit $59,000 $632,800 $285,600Discount Rate 1.00 1.14 1.30Net Present Value $59,000 $555,088 $219,692.31Cum. NPV $59,000 $614,088 $833,780.03Lifetime Value $0.30 $3.07 $4.17
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Discount Rate Basic Formula
Market Rate of Interest...5%Assume Risk (Double rate)...10%Years = n Interest = iFormula: D = (1 + i)n
Calculation of rate after 2 years: D = (1 + .10)2 = (1.10)2 = 1.21
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New Strategies
• Add a website that takes donations
• Make website interesting with lots of interesting info on the cause being promoted.
• Collect donor’s emails. Send appeals by both direct mail and email
• Sent retention communications besides just appeals
• Personalize all messages to existing donors
• Personalize web site “Welcome back, Susan”
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Non Profit AcquisitionLifetime Value Year Year 2 Year 3Donors 200,000 90,000 49,500 Retention Rate 45% 55% 54%Acq. Resp Rate 5.0%Gifts per year 1.30 1.50 1.60Average Gift $11.00 $12.00 $13.00Web Average $16.00 $20.00 $24.00Web Gifts /Yr 1.30 1.40 1.50Web Givers 8% 12% 14%Web Gifts $332,800 $302,400 $249,480Total Revenue $3,192,800 $1,922,400 $1,279,080
Overhead 20% 20% 20%Overhead Cost $638,560 $384,480 $255,816Email & Website $150,000 $150,000 $150,000Acquisition Mail 4,000,000 Retention Mail 200,000 200,000Appeal Mail 50,000 400,000 400,000 Cost Each $0.42 $0.42 $0.42Mail Costs $1,701,000 $252,000 $252,000Total Costs $2,489,560 $786,480 $657,816
Net Profit $703,240 $1,135,920 $621,264Discount Rate 1.00 1.14 1.30Net Present Value $703,240 $996,421 $477,895.38Cum. NPV $703,240 $1,699,661 $2,177,556.44Lifetime Value $3.52 $8.50 $10.89
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Results of new strategies
AcquisitionYear Year 2 Year 3
Old LTV $0.30 $3.07 $4.17New LTV $3.52 $8.50 $10.89Difference $3.22 $5.43 $6.72Times 200,000 $644,240 $1,085,573 $1,343,776
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Compute LTV of all donors
• Use software to insert the actual donor record of each donor
• Use the spreadsheet to pretend that there are 200,000 donors just like each donor
• Put the resulting LTV into each donor database record.
• Let’s look at Susan Smith
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Susan Smith AcquisitionLifetime Value Year Year 2 Year 3Donors 200,000 90,000 49,500 Retention Rate 45% 55% 54%Acq. Resp Rate 5.0%Gifts per year 1.00 2.00 1.00Average Gift $20.00 $20.00 $25.00Web Average $0.00 $0.00 $0.00Web Gifts /Yr 0.00 0.00 0.00Web Givers 8% 12% 14%Web Gifts $0 $0 $0Total Revenue $4,000,000 $3,600,000 $1,237,500
Overhead 20% 20% 20%Overhead Cost $800,000 $720,000 $247,500Email & Website $150,000 $150,000 $150,000Acquisition Mail 4,000,000 Retention Mail 200,000 200,000Appeal Mail 50,000 400,000 400,000 Cost Each $0.42 $0.42 $0.42Mail Costs $1,701,000 $252,000 $252,000Total Costs $2,651,000 $1,122,000 $649,500
Net Profit $1,349,000 $2,478,000 $588,000Discount Rate 1.00 1.14 1.30Net Present Value $1,349,000 $2,173,684 $452,307.69Cum. NPV $1,349,000 $3,522,684 $3,974,991.90Lifetime Value $6.75 $17.61 $19.87
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GOLD Spend Service Dollars Here
Spend Marketing Dollars Here
Reactivate or Archive
Your Best Customers - 80% of Revenue
Your Best Hope for New Gold Customers
Move Up
1% of Total Revenue These may be losers
Segment donors by LTV – Develop a marketing strategy for each segment
RFM Analysis
Recency Frequency Monetary (RFM) Analysis
• Used for marketing to customers
• Always improves response and profits
• Better than any demographic model
• The most powerful segmentation method for predicting response
How to Apply Recency Codes
• Put most recent purchase date into every customer record
• Sort database by that date - newest to oldest
• Divide into five equal parts - Quintiles
• Assign “5” to top group, “4” next, etc.
• Put quintile number in customer record
Response by Recency Quintile
3.49%
1.25% 1.08%0.63%
0.26%
0.00%0.50%1.00%1.50%2.00%
2.50%3.00%3.50%4.00%
5 4 3 2 1
Recency Quintile
Resp
onse
Rate
How to compute a Frequency Index
• Keep number of transactions in customer record
• Sort Recency Groups from highest to lowest
• Divide into five equal groups
• Number groups from 5 to 1
• Put Quintile number in customer record
Response by Frequency Quintile
1.99%
1.56%
1.31%
0.92% 0.93%
0.00%
0.50%
1.00%
1.50%
2.00%
2.50%
5 4 3 2 1
Frequency Quintile
Re
spo
nse
Ra
te
How to compute a Monetary Index
• Store total dollars purchased in each customer record
• Sort Frequency Groups from highest to lowest
• Divide into 5 equal groups (Quintiles)
• Number Quintiles 5, 4, 3, 2, 1
• Put Quintile number in each record
Response by Monetary Quintile
1.61%
1.45% 1.46%
1.22% 1.23%
0.00%
0.20%
0.40%
0.60%
0.80%
1.00%
1.20%
1.40%
1.60%
1.80%
5 4 3 2 1
Response to CD Offer by Monetary
Monetary Quintile
Percentage of households promoted who purchased
1.68
1.17
0.88
0.66
0.32
5 4 3 2 10
0.5
1
1.5
2
RFM Code Construction
FM
One SortFive Sorts
Twenty-five sorts
Database
5
4
3
2
1
35
34
33
32
31
335334333332331
R
Appended RFM Codes
Customer Database
Nth
Creating an Nth
300,000 Records
30,000 Records
For Nth by 10, select every tenth record.
Result will be statistical replica of database
Result of Test Mailing to 30,000
# RFM Mailed Response Rate1 555 240 20 8.15%2 554 240 16 6.56%3 553 240 13 5.62%4 552 240 10 4.33%5 551 240 11 4.51%
6 545 240 9 3.78%7 544 240 12 4.98%8 543 240 6 2.88%9 542 240 10 4.26%10 541 240 7 3.10%
11 535 240 10 4.13%12 534 240 9 3.83%13 533 240 8 3.35%14 532 240 6 2.70%
Test Response Rate by RFM Cell
-200
-100
0
100
200
300
400
500
555 455 355 255 111
Index of Response 0 = Break Even
Profit from Test Mailing
Quantity Rate Amount
Goods Sold 402 $40.00 $16,080
Mailing Costs 30,000 $0.55 $16,500
Profits (Loss) ($420)
Test, Full File & RFM Selects Compared
Test Full File RFM SelectResponse Rate 1.34% 1.17% 2.76%Responses 402 23,412 15,295Net Revenue $16,080 $936,480 $611,800No. Mailed 30,000 2,001,056 554,182Mailing Cost $16,500 $1,100,581 $304,800
Profits ($420) ($164,101) $307,000
Test Vs Rollout Response Rates
0.00%
1.00%
2.00%
3.00%
4.00%
5.00%
6.00%
7.00%
8.00%
554 553 552 551 545 544 543 542 541 535 534 533 532 531 525 524 523 522 521 515 514 513 512 511 455 451 445 444 443 355 354 351 344
0.00%
1.00%
2.00%
3.00%
4.00%
5.00%
6.00%
7.00%
RFM Deals with Very Small Numbers
• Only a small percentage (such as 5%) of customers respond to the typical offer
• 95% or more will not respond at all
• RFM tells you which customers are most likely to be in the responsive 5%
• Those who respond may not be your most profitable customers
Retroactive RFM Test
• Many times there is not enough time or funding to run an Nth test in advance
• Solution: apply RFM codes to last year’s completed outgoing promotion.
• Since you know who responded, you can determine response rates by cell
• Use last year’s rates to govern this year’s rollout.
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Recent Case History
• User sells personalized product by mail
• 45,000 selected for a test
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Second Recency Quintile Had More Responses.
Why?
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Even so, First Recency Quintile Had Higher Sales
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Recent buyers spend more per order
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Lowest two recency quintiles did not break
even
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Frequency was very predictive of response
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Monetary did not predict response rate very well
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But Monetary does predict average sales by quintile
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RFM Cells clearly show who to mail to, and who to drop
When NOTNOT to use RFM
• If you use it all the time, half your customers will never hear from you
• They will be lost
• The others will suffer from File Fatigue
• Use it sparingly; when you need a boost
• Use it to identify your best customers
• Don’t go hog wild!
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Books by Arthur Hughes
From McGraw Hill. Order at www.dbmarketing.com
Contact Arthur: arthur.hughes@kbm1.com
Thank You
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