Marketing Variance Analysis

This module introduces the tool of marketing variance analysis

to aid a manager’s understanding of the underlying reason(s)
why a marketing plan’s objectives were or were not met.

Authors: Thomas Kinnear and Stu James

© 2013 Thomas Kinnear, Stu James, and Management by the Numbers, Inc.
 Net Marketing Contribution

NET MARKETING CONTRIBUTION

Let’s start with a review of a basic Income Statement and then move
on to Net Marketing Contribution (NMC), including alternative methods
for calculating NMC.
Simple Income Statement (Example)

Revenues $100
Less: Cost of Goods Sold (COGS) $ 40
= Gross Profit or Gross Margin $ 60

Less Expenses:
Marketing Expenses (ME) $ 20
Other Overhead Expenses $ 30
= Net Income $ 10

Here is a typical (simple) income statement. Note that marketing

expenses are broken out as a separate line item under expenses.

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 Net Marketing Contribution

NET MARKETING CONTRIBUTION

Because the marketing function (manager) is primarily concerned with
marketing profitability, a better measure for that department might be
Net Marketing Contribution (NMC) which leaves out expenses that are
not associated with marketing activity.

Simple Net Marketing Contribution Statement (Example)

Revenues $100
Less: Cost of Goods Sold (COGS) $ 40
= Gross Profit or Gross Margin $ 60

Less:
Marketing Expenses (ME) $ 20
= Net Marketing Contribution (NMC) $ 40

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 Net Marketing Contribution

NET MARKETING CONTRIBUTION

We could add some more relevant information to both the revenues
and cost of goods sold lines by providing the detail for calculating
revenues and COGS as shown below.
Simple Net Marketing Contribution Statement (Example)

Revenues (20 units x $5 price) $100

Less: COGS (20 units x $2 unit cost) $ 40
= Gross Profit or Gross Margin $ 60

Less:
Marketing Expenses (ME) $ 20
= Net Marketing Contribution (NMC) $ 40

Once we add this information, it might be more interesting, from a

managerial point of view, to calculate gross margin differently as
shown on the following page.

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 Net Marketing Contribution

NET MARKETING CONTRIBUTION

Approach 1: Gross Margin using Income Statement

Revenues (20 units x $5 price) $100

Less: COGS (20 units x $2 unit cost) $ 40
= Gross Profit or Gross Margin $ 60

Approach 2: Gross Margin using Unit Margin

Units Sold 20
x Margin (or Price $5 – Unit Cost $2) $ 3
= Gross Profit or Gross Margin $ 60

So, using this second approach, we can now create an alternative

method for calculating Net Marketing Contribution which, as we’ll soon
see, is more valuable to the manager.

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 Net Marketing Contribution

NET MARKETING CONTRIBUTION

Definition
NMC = Volume x Margin – Marketing Expenditures

We may want to break this down even further to enhance our analysis.
We’ve already discussed that Margin equals the selling price less the
unit cost, but we could also further refine volume (units sold).

Definitions
Volume = Market Demand x Market Share
Margin = Price – Unit Cost

This leads us to a more detailed equation for net marketing contribution

as defined on the following page.

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 Net Marketing Contribution

NET MARKETING CONTRIBUTION

Definition
NMC = Volume x Margin – Marketing Expenditures
- or -
NMC = (Demand x Share) x (Price – Cost) – Marketing Expenditures

Insight
We’ve left out many details here, but take a moment to realize that this
general approach may be used for determining the profitability of a
particular product line, of a sales channel (with different margins,
demand, and share), of services, etc. At the Income Statement level,
sales of all products and services through all channels are combined.
Managerially, we want to break out this analysis into finer detail to help
us improve the effectiveness of our marketing plan (product lines,
pricing, discounts, promotions, resource allocation, etc.)

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 NMC Examples

NMC EXAMPLES
Question 1: Fred’s Fine Foods distributes Phil’s Phabulous Olive Oil
along with many other products from different companies. The oil sells
for $20 / bottle retail and Fred sells 300 units. Fred spent $500 on
advertising and his rent is $2000. Phil sells the oil to its distributors for
$10 / bottle and it costs $5 to produce. Of the $500 that Fred spent on
advertising, 50% was provided by Phil in the form of co-op advertising
as an incentive to its distributors. What is the NMC of the Olive Oil
from Fred’s point of view and what is the NMC of using Fred as a
channel from Phil’s point of view?
Answer:
NMC (Fred / Oil) = Units Sold x Margin – Marketing Expenditures
= 300 x ($20 - $10) - .50 * $500
= 300 x $10 - $250 = $2,750
NMC (Phil / Fred) = Units Sold x Margin – Marketing Expenditures
= 300 x ($10 - $5) - .50 * $500
= 300 x $5 - $250 = $1,250

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 NMC Examples

NMC EXAMPLES
Question 2: Sylvia estimates total demand for cell phone service in
Collegeville at 200,000 subscribers. MyMobile has 15% of the market.
The price of the standard service is $40/month. There is no variable
cost. Sylvia recently ran a marketing promotion of 50% off a six month
subscription. Sylvia spent $750,000 on print and TV advertising for the
special promotion and she had 5,000 new subscribers sign up. What
is the NMC for 6 months for the current subscribers of MyMobile?
What is the NMC for Sylvia’s special promotion for the 6 month period?
What else might Sylvia want to consider?
Answer:
NMC (Current Sub.) = Units Sold x Margin – Marketing Expenditures
= 200,000 x .15 x 6 * ($40 - $0) - $0
= 30,000 x $240 - $0 = $7,200,000
NMC (Promotion) = Units Sold x Margin – Marketing Expenditures
= 5,000 x 6 * ($40 * .5 - $0) - $750,000
= 5,000 x $120 – 750,000 = -$150,000

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 NMC Examples

NMC EXAMPLES
Insight
It should be noted that the analysis in this example, but especially in
real life, is not simple. Perhaps Sylvia should consider Customer
Lifetime Value (CLV) in her analysis of the promotion (positive impact).
Maybe Sylvia wonders how many of those 5000 customers would
have selected MyMobile without the special promotion (negative
financial impact). Either of these two issues is likely to have a huge
impact on the NMC calculations from a managerial (planning)
perspective. The accounting is relatively straightforward, but the
marketing decision-making is complex and fraught with ambiguity and
assumptions. Though we have more data all the time, we still have to
choose the right data and appropriate analysis for the problem at hand,
and use our judgment and experience to arrive at a good decision.

Let’s now move on to applying this NMC model to analyze variance

from a marketing plan.

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 Variance Analysis of a Marketing Plan

VARIANCE ANALYSIS OF A MARKETING PLAN

If we think of a marketing plan at its most fundamental level, it consists
of the following decisions and planned outcomes:

Target Market Choice of target market(s)

Market(s) Potential determine(s) potential demand.

Price / Product Market

Inputs Decisions regarding the 4Ps -
(Value Share Price, Product/Service
(Decisions)
Proposition) offering, Promotion, and
Margins
Place (distribution choice) -
Marketing drive market share and
Support Marketing margins outcomes.
Activities Exp ($)

Sales
Outcomes NMC is marketing’s “bottom
Market Share NMC line” for financial results.
(Results)
NMC

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 Variance Analysis of a Marketing Plan

VARIANCE ANALYSIS OF A MARKETING PLAN

If the outcomes section of the marketing plan looks somewhat familiar,
it should. It is basically the NMC equation from previous slides.

Market = Demand
Potential
(Demand x Share = Volume)
Market
Share = Share
A marketing plan should
Margins = Price - Cost consist of specific estimates
for each of these variables!
Marketing
Exp ($) = Marketing Exp ($)

NMC = NMC

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 Marketing Plan Definitions

MARKETING PLAN DEFINITIONS

NMC = Volume x Margin – Marketing Expenditures
- or -
NMC = (Demand x Share) x (Price – Cost) – Marketing Expenditures

Recognizing these marketing performance parameters, a marketing

plan requires that the business estimate a specific level of:

• Market Demand: Size of the target market(s).

• Market Share: Percent of target market captured by the company.
• Price: Market-based price designed to achieve a desired product position
and customer value.
• Variable Cost: All product costs, transportation costs, and sales costs that
vary with each unit sold.
• Marketing Expenditures: Marketing budget needed to achieve the market
penetration in the plan.

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 Marketing Plan Example

MARKETING PLAN
NMC = Volume x Margin – Marketing Expenditures
- or -
NMC = (Demand x Share) x (Price – Cost) – Marketing Expenditures

Question 3: Bill and Sally own a custom cupcake business in

Larksburg and they are designing a marketing plan for next year. They
estimate the total market for cupcakes in Larksburg at 400,000 and
they are planning to achieve a 35% market share. They will price their
cupcakes at $1 each and their variable costs are expected to be $.40.
They plan to spend $80,000 on advertising, delivery, and promotion
next year. What is their planned NMC?

Answer:
Planned NMC = (Demand x Share) x (Price – Cost) – Marketing Exp.
= (400,000 x .35) x ($1 - $.40) - $80,000
= Volume x Margin – Marketing Exp$
= 140,000 x $.60 - $80,000 = $4,000

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 Marketing Plan Variance Example

MARKETING PLAN VARIANCE EXAMPLE

Question 4: At the end of the year, Bill and Sally reviewed their
results which showed a loss on NMC of -$15,000. They wondered
what caused this. They sold 150,000 cupcakes at $1 each, which was
more than they had planned, and yes, they knew that a special
promotion mid-year was $10,000 higher than they expected due to a
high response rate. Their total cost of goods sold was $75,000. They
later found out that 1 million cupcakes were sold in Larksburg. Can
Bill and Sally discover where their plan didn’t meet expectations?

Answer:
So, we can say that the variance between the planned NMC and the actual
NMC was -$19,000 ($4,000 - $15,000), but we still need a few additional
pieces of the NMC equation for a more complete analysis.

Cost = $75,000 / 150,000 = $.50 (Actual Variable Cost)

Market Share = 150,000 / 1,000,000 = 15% (Actual Market Share)

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 Marketing Plan Variance Example

MARKETING PLAN VARIANCE EXAMPLE

Now we can summarize the variance of performance metrics for Bill
and Sally’s example as follows:
Area of Performance Plan Actual Variance
Market Demand 400,000 1,000,000 600,000
Market Share 35% 15% -20%
Volume 140,000 150,000 10,000

Price / Unit $1.00 $1.00 $0.00

Variable Costs $0.40 $0.50 $0.10
Margin / Unit $0.60 $0.50 -$0.10
Sales Revenues $140,000 $150,000 $10,000
Gross Profit $84,000 $75,000 -$9,000

Marketing Expenses $80,000 $90,000 $10,000

Net Marketing Contribution $4,000 -$15,000 -$19,000

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 Marketing Plan Variance Example

MARKETING PLAN VARIANCE EXAMPLE

Insight
Using this summary, we can see that Bill and Sally were really saved
by the fact that the market grew so much. In every other measure,
they lost ground. Market share was down, margins were down, and
marketing expenditures were over budget. They were also
significantly off their market size forecast. Marketing plan variance
analysis allows managers to see what happened beyond the bottom
line, which alone may not highlight significant changes or problems in
the market, competition, or forecasting techniques!

Finally, it may be helpful to put a dollar value on each variance so that

the magnitude of the variance may be compared directly. The
following slide provides the formulas for doing so, and the slide after
that shows how it applies to this example.

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 Variance Analysis of a Marketing Plan

VARIANCE ANALYSIS OF A MARKETING PLAN

Variance NMC Variance
Decomposition NMC(actual) – NMC(plan)
Structure [(Va* Ma) – Mea] – [(Vp * Mp) – Mep]

+ Volume Variance - Marketing Exp. Variance + Margin Variance

Mp * (Va – Vp) - (MEa – MEp) Va * (Ma – Mp)

+ Demand Variance + Share Variance + Price Variance - Cost Variance

Mp * Sp * (Da – Dp) Mp * Da * (Sa – Sp) Va * (Pa – Pp) - Va * (Ca – Cp)

Where:
V= Unit Volume, M=Margin, ME=Marketing Expenditures,
S=Market Share, D=Market Demand, P=Price, C=Variable Cost
a = actual p = planned
Source: This general structure is well presented by Roger Best, Market-Based Management, 6th Edition, Chapter 15, “Performance Metrics and Strategy Implementation”, and by others.

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 Variance Analysis of a Marketing Plan

VARIANCE ANALYSIS OF A MARKETING PLAN

NMC Variance
Example 1: NMC(actual) – NMC(plan)
Cupcakes
[(Va* Ma) – Mea] – [(Vp * Mp) – Mep]
-$15,000 - $4,000 = -$19,000

+ Volume Variance - Marketing Exp. Variance + Margin Variance

Mp * (Va – Vp) - (MEa – MEp) Va * (Ma – Mp)
$.60 * (150,000 – 140,000) - ($90,000 - $80,000) 150,000 * ($.50 - $.60)
= $6,000 = -$10,000 = -$15,000

+ Demand Variance + Share Variance + Price Variance - Cost Variance

Mp * Sp * (Da – Dp) Mp * Da * (Sa – Sp) Va * (Pa – Pp) - Va * (Ca – Cp)
$.60 * .35 * (1,000,000 – 400,000) $.60 * 1,000,000 * (.15 - .35) 150,000 * ($1 - $1) 150,000 * ($.50 - $.40)
= $126,000 = -$120,000 = $0 = -$15,000

Insight
Using this analysis, it is clear that the share variance of -$120,000 was
the most significant problem, and that the positive effect of the demand
variance of $126,000 almost made up for the three negative variances.

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 Variance Analysis of a Marketing Plan

VARIANCE ANALYSIS OF A MARKETING PLAN

NMC Variance
Example 2: No Top NMC(actual) – NMC(plan)
Level Variance [(Va* Ma) – Mea] – [(Vp * Mp) – Mep]
$94 million - $94 million = $0

+ Volume Variance + Marketing Exp. Variance + Margin Variance

Mp * (Va – Vp) - (MEa – MEp) Va * (Ma – Mp)
$125 * (800K – 800K) $6 million - $6 million) 800K * ($125 - $125)
= $0 = $0 = $0

+ Demand Variance + Share Variance + Price Variance - Cost Variance

Mp * Sp * (Da – Dp) Mp * Da * (Sa – Sp) Va * (Pa – Pp) - Va * (Ca – Cp)
125 * .20 * (4,000,000 – 8,000,000) 125 * 4,000,000 * (.20 - .10) 800,000 * ($300 - $250) -800,000 * ($175 - $125)
= -$50,000,000 = $50,000,000 = $40,000,000 = -$40,000,000

Insight
The marketing plan seems to be spot on at both the top level and the
first level of variance analysis. The real information is seen at the
demand/share/price/cost/expenditure level. The question then
becomes what causes the variance at this level?
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 Variance Analysis – Root Causes

VARIANCE ANALYSIS - ROOT CAUSES

Profit = NMC – Other Fixed Costs =
Unit Sales x Unit Margin - TFC
(Demand x Share) x (Selling Price – COGS) - TFC
* Inherent needs * “Quality” of product * MSRP – channel * “Quality” and cost * Discretionary
* Nature of products relative to competitors margins, and of components marketing
available on market * Relative $s for marketing discounts * Technological expenditures:
* Total marketing $s * Quality of marketing * Customer value • capabilities advertising,
targeted at market effort: advertising, sales level * Volume effects promotion,
* Quality of marketing force, etc. * Price sensitivity * Product stability: sales force, etc.
effort * Price relative to * Sales force upgrade nature * R&D costs
*Product life cycle competitors commissions and timing; *Capacity utilization
phase phase * Distribution scope and remodeling, etc. * Technology
*Economy: (GDP, quality capability
interest rates, * Brand positioning upgrades
inflation, etc.) * Overall corporate image, *Fixed distribution
preference, capabilities costs
* Overhead cost
Where: TFC = discretionary marketing expenditures + other fixed costs

Find the root causes of variances!

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 Variance Analysis of a Marketing Plan

VARIANCE ANALYSIS OF A MARKETING PLAN

The key managerial issues relate to examining the causes of the
variances. The variances are only the beginning of the analysis. The
manager needs to use this variance insights to probe into such issues
as: why did the market grow so much; why was the brand’s market
share objective not reached; and why did variable costs increase (or
why were they different from the plan)?
Some of the sub-questions they might ask in the cupcake example
include:
• Did a new competitor enter the market?
• Did an existing competitor change their strategy?
• Did the company lose existing customers and/or gain new
customers? Why?
• Are people buying more cupcakes or are people who never bought
cupcakes before now buying them (usage vs. penetration)?
• Is the market likely to continue to grow at this rate next year?
• What was the cause of the increase in costs?
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