Budget Optimizer
Last updated
Last updated
The Budget Optimizer tool is designed to help you forecast future marketing outcomes using historical data. It provides insights into trends and patterns, aiding marketers in making more informed decisions about the allocation of marketing budgets. In the following sections, we are going to cover the methodology, key principles, and the underlying processes. Then, we will describe the features of the Budget Optimizer, including its various pages and customization options, guiding you on how to effectively use the tool.
The Budget Optimizer (BO) utilizes regression analysis to predict outcomes based on historical data, focusing exclusively on the level of investment as a predictive variable. Here's a detailed breakdown of its working principles and key methodologies:
The core methodology behind BO is regression analysis. This statistical technique examines the relationship between a dependent variable (such as Net Revenue, Gross Profit, or Marketing Profit) and an independent variable (Marketing Investment). By analyzing this relationship, BO predicts how changes in investment levels will impact revenue and profit.
Dependent Variable
Definition: The outcome or the variable you are trying to predict or explain.
Explanation: In our example, the dependent variable would be sales. Itโs called "dependent" because its value depends on other factors (like ad spend).
Definition: The variable that you think influences or predicts the dependent variable.
Explanation: In the same example, the independent variable would be the ad spend. It's the factor you believe is affecting sales and you can influence it.
Think of it like this: regression analysis helps us understand how one thing affects another. In this case, we want to see how the level of investment in marketing affects the results (net revenue or profit). Imagine, you run different marketing campaigns and each week you track the money spent and the resulting revenue from each. Once you have this, you create a chart for each campaign with each dot representing one week of results. During the regression, these data points are used to draw a line (function) that best represents the relationship between spending and profit. It's like finding a trend in the data that helps us make informed guesses about future outcomes.
In the graph below, each red dot represents a week in the historical data, with darker red dots indicating more recent weeks. The solid red line is the regression line (function), which best fits the data points. The dashed lines represent the confidence intervals, indicating the range within which we expect the true regression line to lie. The black arrow shows the recommended change in the level of spend.
Confidence Intervals
As the performance of a campaign never depends only on the level of spend, there will be variation in performance from week to week even if the spending stays stable. As a result, it is impossible to find such a function that will go directly through all the dots on the chart. It means that while the red line is the best available predictor of future outcomes, the real function might be different. Confidence intervals represented by the dashed lines tell you in what range the true function should be with various levels of confidence.
Method of Least Squares
To make these predictions as accurate as possible, BO uses a technique called the Method of Least Squares.
Imagine plotting all your ad spend and sales data on a graph (as shown above). The method of least squares helps to draw a line that best represents the trend of your data by minimizing the distance between the data points and the line. This line is the best predictor of future sales based on ad spend.
Data Utilization
BO works with the last 20 weeks of data, continuously re-adjusting itself based on the latest performance every week. It employs a time decay rule, giving more weight to recent weeks compared to older data. This approach ensures that the model stays relevant and adapts to the latest trends and changes in performance.
Attribution Consideration
The optimizer already takes attribution into account, ensuring that the contributions of various marketing channels are accurately reflected in the predictions.
Handling Insufficient Data
BO requires a certain amount of data to make meaningful inferences. If a particular channel lacks sufficient data, the system will not display any suggestions. In such cases, users can either wait for more data to accumulate, increase the level of spending on that channel, or merge smaller channels into larger ones to gather more comprehensive data.
Limited Variables
Budget Optimizer only uses marketing investment as an independent variable. This means it does not consider external factors such as weather, seasonality, human errors, keyword structure, competitors' actions, or creative quality. These external factors can significantly impact marketing performance. This needs to be taken into consideration by the marketer when deciding about the best implementation of the recommendations.
The Model Complements the Marketer
Budget Optimizer is a model that gives recommendations purely based on statistics. It requires a marketer to decide what will be the best way to convert the recommendation into a business reality as the implementation will be different for each channel.
Setting clear goals is the first step in using the Budget Optimizer effectively. There are two main aspects to consider: defining your primary focus and determining how you want to manage your marketing budget. All these goals can be adjusted in the Budget Optimizer settings.
First, decide whether you want to prioritize profitability or growth:
Profitability: If your goal is to maximize profitability, you'll focus on Marketing Profit. This ensures that your marketing efforts generate revenue efficiently and contribute positively to your overall profitability.
Growth: If your goal is to drive growth, you'll focus on Net Revenue. This approach aims to maximize top-line revenue, even if it doesn't always result in the most profitable use of your marketing budget.
In the Budget Optimizer settings, you can select either Marketing Profit or Net Revenue targeting based on your focus. The choice depends on your business strategy and current market conditions. Maximizing marketing profit ensures cost-effective marketing efforts while maximizing net revenue is crucial for increasing the business's overall growth.
Next, decide how you want to operate with your marketing budget. Consider the following options:
Keep or Decrease Total Budget: Reallocate resources and reduce marketing spend when necessary. This approach is suitable for maintaining or cutting back on overall spending.
Keep or Increase Total Budget: Reallocate resources between different channels or activities and increase your marketing spending when appropriate. This strategy supports growth by investing more in marketing efforts.
Keep Last Total Budget: Reallocate existing resources between different channels or activities while maintaining the same overall budget as the previous period. This option is useful for stability while optimizing allocation.
Do Not Limit Total Budget: Reallocate resources based on performance without imposing a cap on the total marketing budget. This flexible approach allows for dynamic adjustments to maximize performance.
After defining your primary focus and budget strategy, it's crucial to set measurable targets or constraints. These targets will help you track progress and ensure your marketing efforts are aligned with your business objectives.
Consider the specific outcomes you want to target with your marketing campaigns. These can include:
Revenue Goals: Define specific revenue targets you aim to achieve within a certain period. This could be a percentage increase in net revenue or achieving a specific dollar amount.
Profit Margins: Set targets for marketing profit margins to ensure that your marketing efforts are not only driving revenue but also contributing to the overall profitability of the business.
Customer Acquisition: Establish goals for acquiring new customers, such as increasing the number of new customers by a certain percentage or reaching a specific number of new sign-ups or purchases.
Market Share: Aim to increase your market share in a particular segment or region by a defined percentage.
Return on Investment (ROI): Set targets for ROI on your marketing spend. For example, achieving a 5:1 return on every dollar spent on marketing.
In addition to setting targets, you may also need to implement constraints to manage risk and ensure sustainable growth. These constraints could include:
Budget Limits: Set upper limits on your total marketing budget to prevent overspending. This is especially important if you're operating with a fixed budget or need to maintain strict financial control.
Cost per Acquisition (CPA): Define maximum acceptable CPA levels to ensure youโre acquiring customers cost-effectively.
Ad Spend Limits: Place limits on the amount youโre willing to spend on specific channels or campaigns to avoid diminishing returns.
Time Constraints: Set specific time frames for achieving your targets, such as quarterly or annual goals. This helps in planning and adjusting strategies as needed.
By setting measurable targets and implementing constraints, you can create a focused and effective marketing strategy that drives your business toward its desired outcomes. These targets and constraints should be regularly reviewed and adjusted based on performance and changing market conditions.
Once you have set your goals and measurable targets, it's crucial to validate the recommendations provided by the Budget Optimizer to ensure they are logical and aligned with your objectives.
First, evaluate whether the recommendations make sense within the context of your goals. Check if they align with your primary focus, whether it's profitability or growth. For example, if your goal is to increase net revenue, ensure that the suggested changes support this objective.
Next, assess the feasibility of implementing these recommendations. Consider your current resources, market conditions, and operational capabilities. Are the recommended actions practical and achievable given your circumstances?
Ensure that the recommendations match your business strategy and comply with any budget constraints you have set. This involves verifying that the suggested changes contribute positively to your key performance indicators (KPIs) and support your overall strategy.
After receiving recommendations from the Budget Optimizer, validate these suggestions using the model comparison table. This table allows you to compare different models and their performance metrics to ensure the recommendations align with your objectives.
Once you have validated the recommendations in the model comparison table, compare these validated suggestions with the recommendations in the Budget Optimizer. This step ensures that the proposed budget changes are backed by solid data and analysis. You can work at any level of granularity that suits your needs, as long as you have sufficient data for the selected segments. This flexibility allows you to make informed decisions based on detailed insights.
Based on the insights from the previous steps, you can now make informed decisions to reallocate your budget. After adjusting your budget, itโs crucial to record the changes for future reference and analysis.
Use the validated recommendations and attribution analysis to decide how much of your budget to reallocate. Make strategic adjustments to align with your overall goals.
Document all changes made to your budget allocation. This will help you:
Track the effectiveness of the changes.
Adjust your strategy based on performance data.
Maintain a clear record for future analysis and decision-making
After some time (typically a week or two), itโs important to evaluate the outcomes of your budget reallocation to ensure that your marketing strategy is effective and aligns with your goals.
Compare Against Goals: Measure the actual results against the goals you set initially, such as profitability or growth targets.
Review Key Metrics: Look at key performance indicators (KPIs) like revenue, profit margins, customer acquisition costs, and return on investment (ROI).
Effectiveness of Adjustments: Determine which changes had the most significant impact. Assess whether reallocating the budget improved the performance of your marketing channels.
Identify Areas for Improvement: Identify any areas where the results did not meet expectations and consider why. This could involve revisiting your strategy, targeting, or other factors.
Record Findings: Document the results and insights gained from this evaluation period. This will help inform future budget allocations and strategic decisions.
Marketing optimization is a marathon rather than a sprint, keep what worked last time, and adjust what seemed less effective.
