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March 2008

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Cutting adspend in a recession delays recovery

Paul Dyson Data2Decisions We are heading for a recession - at least that is what we are told - and several indicators suggest the UK is at least in an economic slowdown. House prices are falling, consumer spending is slowing, many companies are announcing reduced profits and surveys of consumer confidence have shown declines since November 2007. In fact, the only thing rising is media mentions of the word recession as tracked by The Economists R-word Index. And beware - this index accurately predicted the last three downturns in 1981, 1990 and 2001! Why should marketers worry about recession? Well, in a recession consumers spend less, so revenues and profits go down. For many, it follows that marketing budgets should be cut accordingly, and, usually, the first element to go is the area where value seems hardest to prove - namely, the advertising budget. Actually, it is wrong to say it is difficult to prove the value of advertising. Econometrics is now a basic tool in most marketing toolboxes and can give an accurate indicator of how much advertising pays back. The problem is that in many cases - particularly in the fast-moving consumer goods (fmcg) sector - advertising does not seem to pay for itself. Figure 1 shows some published results, and the picture is a sorry one. On these examples, practitioners agree that advertising typically seems to return only about 50 per cent of its cost.

Figure 1: Many practitioners report that advertising does not pay back These sorts of figures make it easier to argue for a cut in advertising, particularly in tough times for the company. However, there are two problems with cutting advertising spend in a recession. First, there is strong evidence to suggest it may benefit the brand more to advertise through a recession. Second, the sort of returns shown in Figure 1 may be misleading. For a start, although according to our database, most brands see average returns of 50p for every 1 of adspend, we have plenty of clients which have enjoyed much bigger returns. Some have had returns as high as 20 for every 1 spent on advertising. The size of ROI tends to be governed by the size of market in which the advertiser is operating.1 Brands operating in big markets (such as retailers, petrol, banking and insurance) tend to have very healthy ROIs. Which begs the question why brands in this position would they cut marketing spend that pays back 20 times their investment? Also, the results in Figure 1 are skewed towards the short term. Everyone agrees that advertising must also have a long term effect but it rarely gets measured. There is growing evidence that when the long term impact of advertising is quantified, the total return can be anywhere from two times to six times that of the short term effect. This could turn an ROI of 50p per 1 spent into a much healthier 3. Steal a march on competitors There have been a number of studies that suggest maintaining the advertising budget during a recession benefits the brand in question. Figure 2 summarises a selection of these studies which span recessions as far back as the 1920s. The message is clear - brands maintaining their budgets during a recession come out stronger and with bigger gains than those which have cut expenditure. And some of the studies clearly mention how these brands continue to benefit competitively for two or three years after the recession Is over.

Figure 2 - studies across various recessions show the value of maintaining marketing budgets How does this work? The explanation is generally based on share of voice. In a recession, some brands reduce adspend, which can allow those brands which dont cut to steal market share from those which do. There are probably more subjective elements too: in a recession, advertised brands may appear to consumers as safer, more aspirational choices. But ultimately the main factor seems to be whether or not a brand is being advertised more than its competitors. Of course this suggests success is not just about being brave and maintaining budgets in a recession. It also requires that at least some competitors arent so bold and are cutting back. There are additional factors at work in a recession. For a start, advertising (especially TV) becomes cheaper due to reduced demand. So the same money buys more media. Consumers reining in their spending also tend to stay at home more so the TV audiences available to advertisers can go up. These trends allow brave advertisers to get better value for their media adspend. In the last recession of 1989-1992, Press maintained its relative price throughout the period whilst TV gradually became cheaper. As we enter the next one, it is clear from figures that the same is true this time around, although TV is deflating at a much greater rate. (Billetts, October 2001)5 However, this does not explain why brands advertising through the recession should also benefit long after the recession has ended. Typically, these brands competitors will have increased budgets relatively quickly as recovery starts - especially if they have been suffering share losses during the recession - so one might have expected the pre-recession situation to have been restored. The reason why it does not typically return quickly is related to the long term effects of advertising. In it for the long term? Most econometric studies measure the short term effect of advertising very well. Typically, it is a short sharp increase in sales that is easy to identify and quantify. Many practitioners, however, do not go on to measure a campaigns long term impact. This can be much harder to do - the long term effect is slow moving, making it difficult to detect. Nevertheless, we have had a lot of success measuring the long-term impact. Our figures suggest that by adding together the long and short term impacts of advertising, the total advertising effect is increased by a factor of three or four. This is backed up by other studies,9 although the multiplying effect is often unclear due to varying definitions of short term and long term. What we do in our modelling is allow the data to tell us what the long term is, and it usually defines it as a period of two to four years (this varies by category and depends, among other things, on competitiveness and purchase cycle). What this means is that the long term effect of advertising (which often comprises up to 80 per cent of the total effect of adspend) and its duration can be a significant determinant of sales not only during the recession but for some time afterwards. To demonstrate this, Figure 3 shows the sales generated by advertising under three different scenarios: 1. 2. 3. Maintaining ad budgets. Cutting budgets by 50 per cent for one year. Axing budgets by 100 per cent for one year.

In the latter two, scenarios we assume the brand in question returns to spending a normal budget in the year after the cut.

Figure 3 - impact of cutting budgets he dotted line in Figure 3 is the result on sales directly attributable to the companys decision to stop advertising altogether for one year. Returning to normal weights after this, it takes three-four years to get back to the sales level where the brand would have been had its ad budgets been maintained. Even cutting budgets by 50 per cent for a year takes two years to recover fully (as shown by the middle line in Figure 3). This is one explanation why those brands not cutting budgets during a recession seem to benefit for two to three years after the recession is over: rival brands that did reduce spends will take time to get back to their pre-recession levels. Looking at this another way, if adspend is cut during a recession, then it has to be increased during recovery to get back to pre-recession sales levels quickly. The crunch is that for the example in Figure 3: the increased spend required during the recovery just to get back to pre-recession sales levels within a year will have to be around 60 per cent higher than the amount saved by cutting the ad budget in the first place. And this, of course, assumes that the lost consumers can be won back easily. From a financial point of view it would seem the only justification for cutting advertising spend in a recession would be if a company needed the cash flow earmarked for advertising. Otherwise, the figures simply do not add up. Value, value, value Ultimately, there may be no choice for a company, and marketing budgets may have to be cut for a business to survive on reduced revenues. It may be decided that profits have to be shored up during the recession by reducing expenditure, even in the knowledge that future profits will be hit during the recovery if the brand has to spend more to claw back lost ground. Before swinging the knife, marketing teams should investigate whether they can make current budgets work harder in a way which would allow them to reduce outlays without experiencing a drop in sales. For advertising there are many alternatives to investigate: from quality viewing (buying media time within more relevant programmes) to more efficient budget allocation and improvement of advertising creative. Some of these could more than compensate for fairly sizeable budget cuts.1 0 However, if cuts have to be made, the question then becomes which expenditure adds the least value? This is possibly what drives companies to reduce their advertising expenditure - simply because they do not understand its full value and especially as it is usually the single biggest investment on the balance sheet. The temptation to switch to greater use of promotions, which could generate a visible short term increase in sales, may be too strong. But there is evidence that even promotions rarely achieve a positive ROI (for the manufacturer)1 1 so understanding the brand and how effective its different marketing spends are is crucial for responding quickly when the recession bites. Then the expenditure stream that adds the least value can be reduced first. For most brands, however, that would not be advertising. References 1) P Dyson: Advertising profitability - size matters. Admap, November 2003 2) M Campbell: Is ROI dead? Admap, March 2005 3) Deutsche Bank: Commercial noise - why TV advertising does not work for mature brands. Ad Age, May 2004 4) A Ruffle: ROI: A passing fad or enduring trend? Admap (China Supplement), February 2007 5) E Ephron & G Pollack: The curse of Lord Leverhulme. Admap, July/August 2003 6) Billetts Media Bulletin: Advertising in a Recession: The Opportunity for Brave Brands, Oct 2001 7) A Nucifora: The Daily Transcript May 2nd 2001 8) A Smith and FIPP: Take A Fresh Look At Print, 2002 9) See for instance: L Lodish et al: A Summary of Fifty-Five In-Market Experimental Estimates of the Long-Term Effect of TV Advertising, Marketing Science 14(3), 1995; Data2Decisions: Long Term Advertising Breakfast Briefing Jan 2008 (available on request) 10) P Dyson and K Weaver: Advertisings Greatest Hits: Profitability and Brand Value, Admap Feb 2006 11) See for instance: K Jedidi et al: Managing Advertising and Promotion for Long-Run Profitability, Marketing Science 18(1) 1999; or J Banks and C Bunn: Promotions: adding value or driving sales? Admap June 2004 About the author:

Paul Dyson founded D2D Limited - an independent modelling and analysis agency - in 2001 following 17 years' experience at Millward Brown and MindShare. He can be contacted at pauldyson@d2dlimited.com.

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