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Mar 01

Calculating the Cost of Getting Customers

Posted by: Steve Marr

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A key issue for any business is determining the cost of acquiring customers. Taking the time to figure this cost is important for two reasons. First, understanding the cost of acquiring customers enables you to accurately evaluate your actual cost of doing business. Second, you can see which investments in sales are paying dividends, and which ones are not. Jesus said, “Suppose one of you wants to build a tower. Will he not first sit down and estimate the cost . . . ?” (Luke 14:28, NIV). Counting the cost of getting customers is important for any businessperson.

Location is important for many businesses, and it should not be overlooked as part of your cost in getting customers. Two barbers near my home proved an excellent example of this. One has a prime location on the main street, near heavily trafficked retail establishments, and he pays $34 a square foot. The other barber pays $18 a square foot but is located a mile away from the main street in an area with far less retail traffic. If the barber in the prime location gains an average of three customer haircuts a day based on his location, the average cost to obtain these customers is about $2 each. Based on this information, the “high rent” barber can determine whether paying the extra rent is worth the price

To evaluate how your location and the cost of that location affect your business, several factors need to be considered. First, ask new customers how they heard about you. Was if from signs, advertising, Yellow Pages, or customer referral? This information will be helpful, and as you learn the number of customers who come in because of your sign and location, you can take a step in determining the cost of getting those customers. My barber has been in business for thirty years and has developed an excellent clientele. He has few openings, and paying extra for a highly visible location would be pointless.

Advertising is used by most businesses to attract customers. When you receive inquirers or new customers ask, “How did you hear about us?” Add up the total you spend on advertising and divide by the number of new customers that your advertising brings in. If you advertise in several ways, you can see what is working and what is not, but it’s important that you understand the value of additional customers that your advertising brings in. A car wash spent $1,500 a month on various ads. I suggested that they try offering a discount coupon in their ads to determine response rates. After collecting coupons for two months, the owner had received 227 coupons, which meant he was spending an average of $13.22 for each customer responding to his ad, which was far more than the $9.99 price of the average car wash. In this case, eliminating the ads would improve his bottom line. Another client, who cleaned high-quality antique rugs, figured he spent $19 in advertising to gain one new customer, and that his average cleaning charge was $150. With his gross margin of 45 percent, more advertising—not less—resulted in a dramatic increase in profits.

Salespeople (either salaried or commissioned) are another way to generate customers. If you employ a sales staff, make sure you calculate the entire cost of each salesperson, including salary (or commissions), payroll taxes, office expenses, travel, and all other related expenses. I often find that business owners don’t understand the full cost of employing a salesperson, and therefore they don’t understand their cost of attracting new customers.

I have a client that does Internet sales and marketing, selling a product with a 45 percent gross margin. They can offer a 30 percent commission to Web sites, paying a per-click charge, and still make money. The key for them is to keep the cost of these sales at, or below, 30 percent.

Next, consider your management time. Your time has value, and you should consider that cost when calculating your cost of sales. One client, who worked 65 hours a week and took home $45,000 a year after expenses from his business, told me that his time didn’t cost anything, he just put in extra hours. But he spent about 25 hours a week generating sales, and that time was worth money. I suggested that if he sold his business, he could get a job based on 40 hours a week and take home the same, or more, money.

Finally, keep in mind that the longer you are likely to keep a repeat customer, the more you can afford to spend on customer acquisition. The rug cleaning specialist found that he had a 70 percent repeat rate with his customers, so he could afford to spend even more on advertising to build up customer base. The Internet marketers, on the other hand, did not generate much repeat business based on the products they offered, so staying within their 30 percent budget cost was critical.

Steve Marr, Your Christian Business Coach

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