Engagement Rate is the Margin Squeeze in Digital Advertising

Engagement Rate is the Margin Squeeze in Digital Advertising

Engagement rate, the percentage of the audiences that consumes a particular piece of editorial content, creates the biggest squeeze on digital advertising profits.  The advertising profit contribution of media is defined by the advertising revenue produced from page views minus the costs to create the content and sell the advertising. Unlike print media that uses circulation and pass-along rate to define a sellable inventory of page views, digital media uses audience size and engagement rate.  While pass-along rate acts as a page view multiplier on circulation, engagement rate is a page view filter on audience size.  The consequence is that the engagement rate puts a squeeze on advertising profit margins.

To illustrate this point, the infographic below benchmarks the advertising profit contribution of ad sales and editorial of print vs. digital.  As in previous comparisons, this example assumes the print product is a 50-page magazine with 30 advertisements which means for every additional page of editorial the sales team needs to sell 0.6 ad placements.  On the other hand, for every page of editorial in digital the sales teams typically needs to sell 4 ad placements which is an increase of 6.7 times more insertion orders vs. print.  On the surface, it appears like the increased cost of sales would result in more revenue (i.e., 4 ads vs. 0.6) but this is where engagement rate impacts the revenue and profits.

Scout® Research consistently finds that the engagement rate for an individual piece of the editorial is rarely above 10%.  Average engagement rates across all editorial within a site are usually below 10%.  So at a 10% average engagement rate, which is very good, a page of digital editorial in the infographic example will generate 50,000 sellable advertising impressions (i.e., 100,000 members X 10% engagement rate X 4 ads per page view + 20% additional from fly-bys).  In contrast, the 0.6 ads per page in print multiplied by 100,000 circulations and the 1.75 pass-along rate results in 105,000 sellable advertising impressions.  To make up for the drop in sellable impressions, the digital editorial team has to create two times more content.

In other words, to get to the same revenue assuming digital and print CPM consistency, the digital team has to sell 6.7 times more advertising and produce 2 times more content.  This is the advertising profit margin squeeze.

Engagement rate has at least two immediate implications.

The first is that given the impact on advertising profits, engagement rate is an important new metric for managing digital.  The engagement rate informs the publisher about the priorities for profits.  With a low engagement rate, a publisher needs to improve profits through audience development.  With a high engagement rate, a publisher needs to improve profits through more editorial.

The second implication is that engagement rate creates a structurally different profit model for digital advertising compared to print.  A structural difference that cannot be overcome except through diversification of the revenue model or a rethinking of advertising.…

How to Calculate the Breakeven Point for Digital Subscriptions

How to Calculate the Breakeven Point for Digital Subscriptions

In subscription-based business models, maximizing customer lifetime value is understood to be a key success factor to a profitable business. But how do you know at what point a customer relationship turns profitable? While there are obvious differences between customers, it turns out you can calculate your average customer lifetime to reach the breakeven point using your existing operating metrics. So how is this done?

Here is the standard operational metrics are known by every online service:

  • Customer Acquisition Ratio (CACR)  – the sales and marketing costs to sign up a new customer as a ratio to revenue acquired
  • Customer Renewal Cost ratio (CRCR) – the sales and marketing costs of closing a renewal as a ratio to revenue renewed
  • Research and Development ratio (RD) – the cost to invest in and make improvements to the service as a ratio to revenue
  • Gross Margins (GM) – revenues minus the costs associated with hosting a service and providing customer support
  • General and Administrative ratio (GA) – the cost associated with finance, management, and other functions as a ratio to revenue
  • Churn Rate (CR) – the percentage of revenue not renewed at the end of a subscription term
  • Profit Margin (PM) – the percentage of revenue that are profits

With these operational numbers, the profitability of a customer relationship can be calculated as the total lifetime subscription revenue minus the total costs. The total subscription revenue would be the number of subscription terms multiplied by the subscription price, minus any churn. The total cost would be the customer acquisition costs, customer retention costs, and prorated G&A, R&D, and operational costs. Expressed as a calculation, it would appear as follows:

As demonstrated by the calculation, the total number of terms (i.e. CL, or customer lifetime) is critical to profitability. The equation can be turned into operational metrics by dividing by subscription price to create ratios of each cost in relation to revenues. The result is the following equation:

So by digging out the old math knowledge, solving the average customer lifetime to the breakeven point can be done using the following equation:

At breakeven, profit margin (PM) equals zero which allows the equation to be solved.

The Implication

Knowing your breakeven point on customer relationships enables you to identify the source of profits. You can segment customers quickly into profitable and unprofitable categories. With that segmentation, you can identify what drives profitability and what are leading indicators of churn. In other words, you can optimize your revenues and profits. Scout Research is developing a customer relationship calculator and benchmarking tool for use on our site, which will perform these calculations for you.  Look for an announcement in the near future on the availability of the calculator.…