Payback- The Risk Alignment Metric

Introduction:?

The 70-20-10 framework can act as a guideline principle for resource allocation, helping organizations divide their efforts and investments among different types of initiatives with varying levels of risk and return on investment over a specific time window. While the model presents a well-rounded strategy, its successful implementation hinges on a critical aspect: balancing it with Payback,

The author believes that the payback metric can serve as a powerful singular organizational alignment metric based on appetite for Risk - to optimize the 70-20-10 allocation without compromising on growth and experimental initiatives, allowing the organization to thrive within its operational constraints. This article explores one way to use payback as a Alignment metric for setting budgets across different initiatives, in the context of sales and Marketing initiatives and will look at only CAC Payback metric (Not overall Payback/EBIDTA) along with an example of how to use it as a basis for applying 70-20-10 framework of resource and budget allocation for Sales and Marketing initiatives..

Understanding CAC Payback Metric:?

The Customer Acquisition Cost (CAC) Payback is a vital metric that measures the time it takes for an organization to recover the cost incurred in acquiring a new customer. In essence, it calculates the break-even point for customer acquisition efforts. A shorter CAC Payback period indicates that the investments made in acquiring customers are recouped relatively quickly, reducing the associated risks. It’s important to understand that CAC Payback is more a risk metric than a performance metric that acts as an anchor for alignment based on the organization's risk appetite across all stakeholders'.

Formula and Levers of CAC Payback: CAC Payback = Sales & Marketing Cost for Time-Range / (Net New Revenue * Gross Margin) for Time-Range

Levers:?

a. Sales Cost for the period (lower spend reduces Payback)?

b. Marketing Cost for the period (lower spend reduces Payback)

c. Churn/Revenue loss (lower revenue loss/churn reduces Payback)?

d. New Revenue from New customers (higher revenue reduces Payback)?

e. New Revenue from Existing Customers (higher revenue reduces Payback)

?f. Gross Margin % (Cost Of Goods Sold / Revenue) *100. (Higher GM% reduces Payback)

The lower the Payback number, lower. the Risk for the organization.

Typical 70-20-10 split

1. 70% Core Initiatives (what works and lower risk)?– Sustaining and Achieving Efficiency on What Already Works: In the 70-20-10 framework, the majority of resources are devoted to core initiatives. By analysing the CAC Payback metric on this bucket, organizations can determine the efficiency of their sales and marketing efforts in retaining and acquiring customers through established channels. If the CAC Payback period is relatively short, it indicates that the organization is effectively engaging with its target audience, leading to quicker returns on investment. However, if the CAC Payback period is too long, it may signal inefficiencies or areas that require optimization and need to be prioritized higher to achieve better by looking at levers of??CAC payback (number of customers, ARPU per customer, marketing and sales spend, churn, upsell , Gross margins ) et al.
2. 20% Growth Initiatives(Testing Waters)- Testing the Waters with a Somewhat Indicative Baseline/Hypothesis Already in Place: As organizations allocate 20% of resources to growth initiatives, the CAC Payback metric can be employed to assess the viability and potential success of these endeavours. It is essential to note that the CAC Payback for growth initiatives will likely differ and initially will be higher than what it is from core initiatives, given the exploration of new markets and channels. By closely monitoring the CAC Payback for each growth initiative, especially its impact on the blended CAC payback, decision-makers can identify which strategies yield positive results and which ones require adjustment or reallocation of resources. Initiatives that start yielding shorter Payback should be considered for inclusion and moved into the core initiative (70%) bucket, while others may need careful evaluation to determine if they should be sustained or discontinued.

It's important not to look at CAC payback as a performance metric for growth initiatives in isolation or, even worse, compare it with other established initiatives. Doing so can result in prematurely rejecting promising growth ideas or even worse – killing it without giving it time while it in Right path.??All the levers of CAC payback will not be in a matured state??and hence a blended overall CAC payback monitoring to ensure the investments are not going out of control and more importantly is this in isolation having a path and showing the promise of moving towards the 70% bucket eventually.?

3- Experimental Initiatives (wild ideas)– Trying Something Totally New With No Precedence/Baseline: The experimental initiatives category embraces high-risk, high-reward ventures. Here, the CAC Payback metric becomes completely irrelevant when applied in isolation. Instead, it needs to be looked at as a blended metric to see if the overall impact of these initiatives falls within an acceptable range. While the CAC Payback may not directly apply to experimental initiatives, other leading metrics should be monitored to determine whether to continue or discontinue these initiatives and ensure the allocation of resources and budget on it does not increase the overall payback blended metrics significantly.

Example:

?Let's assume a SaaS business with an ARR of $5M has the following baseline growth on established channels:

• New customer revenue from established programs – 20% growth = $1M
• Upsell customer revenue from established programs - 40% growth = $2M
• Churn from the existing base – 20% loss = $1M
• Gross Margin (COGS/Revenue) - 60%
• Sales (New, Upsell, Retention) - 500K
• Marketing spend (Team, PPC, Events, Programs) - $1M
• CAC Payback = 15 (S&M cost) / (Net New Revenue added * GM%) = (1.5M) / (2M * 60%) = 1.25 years = 15 months

Now, using this example, let's consider the following ideas:

1. A new capability to reduce the cost of servicing via automation, but not sure until we try it (Core initiative).
2. Replicate what works and try it out in a new Geography (Growth Initiative).
3. A brand new marketing campaign trying out emotional connection messaging with our target personas (Experimental Initiative).

It's essential to accept that there will be an impact on Payback number when investing in Growth and Experimental initiatives, as they will not yield immediate payback. The first question to answer is: How much impact can we accept? Based on this, alignment and budget allocation for Growth and Experimental initiatives can be determined.

• If the answer is that we cannot go above the current "15," the focus should only be on Initiative 1 + other optimization drive on current Sales and marketing budget to sustain and improve efficiency. Initiatives 2 and 3 may not align foundationally as it is guaranteed to take the payback period upward in the short run.
• If the answer is that anything below "20" is acceptable at this stage, while focusing on growth and the promise of a better future state, then there is a range ceiling for CAC Payback (should not go beyond 20). Budget allocation for Growth and Experimental initiatives can be done based on this acceptable and upper ceiling range. From the example given above, this works out to 500K USD even if there is zero output coming out on new initiatives (which, of course, is not a goal but an acceptance level of failure). In reality, there will be output movement and also cross-bucket benefits can be expected (for example, core initiatives output can improve due to marketing brand connect experimental initiatives), and understanding the worst case scenario of output from initiatives can further increase higher allocation of budget. Regular monitoring of initiatives is necessary to ensure the overall blended CAC payback never goes beyond the acceptable range initially set and not fall prey to looking at it only in isolation and even worse comparing it with other established initiatives.

Conclusion:?

The 70-20-10 framework offers organizations a strategic way to allocate resources across different types of initiatives, balancing stability, growth, and innovation. To optimize the allocation of resources within this framework, leveraging the CAC Payback metric is essential. By closely monitoring the CAC Payback period for core initiatives and determining the extent??it can be impacted??is the alignment risk metric anchor around which budget and goals for new initiatives can be set. Using this as anchor point around which budgets and goals set almost eliminates the subjective friction I have seen marketing and product heads get frustrated with & provide a way to get balance between longer-term growth initiatives and short-term??ones , allowing for data-driven decisions, efficient sales and marketing spend, increased profitability, sustained growth, and a culture of innovation instead of solely relying on what works and only milking it.