Budget Decisions

Major Decisions in Advertising

Budget Decisions

Establishing the budget

Budgeting approaches
Allocating the budget

Establishing the budget

Marginal Analysis
Sales response models
Additional factors in budget setting

Marginal Analysis

Gross Margin

Sales in
$

Sales

Ad. Expenditure

Profit

Point A
Advertising / Promotion in $

BASIC Principles of Marginal

Analysis

Increase Spending . . . IF:

The increased cost is less than the incremental
(marginal) return.

Decrease Spending . . . IF:

The increased cost is more than the incremental
(marginal) return.

Hold Spending Level. . . IF:

The increased cost is equal to the incremental
(marginal) return.

Problems with Marginal

Analysis

Assume that sales are a direct measure of

advertising and promotional efforts.
Assume that sales are determined solely by
advertising and promotion.

Advertising Sales/Response
Functions
B. S-Shaped
Response
Function

Sales

High Spending
Little Effect

Middle Level
High Effect

Advertising Expenditures

Initial Spending
Little Effect

Sales

A. ConcaveDownward
Response Curve

Range A Range B Range C

Advertising Expenditures

Factors Influencing
Advertising Budgets

Factors Considered in Budget

Setting

Source: The Advertising Age Editorial Sounding Board consists of 92 executives of

the top 200 advertising companies in the United States (representing the client side)
and 130 executives of the 200 largest advertising agencies and 11 advertising
consultants (representing the agency side).

Budgeting Approaches

Top-down budgeting
Bottom-up budgeting

Top-Down Budgeting

Top Management Sets the

Spending Limit

The Promotion Budget Is Set to Stay

Within the Spending Limit

Top-Down Budgeting

Arbitrary allocation
The affordable method
Historical Method
Percentage of Sales
Competitive parity
Return on investment (ROI)

The Affordable Method

It is used when a company allocates

whatever is left over to advertising.
It is common among small firms and certain
non-marketing-driven large firms.
Companies using this approach dont value
advertising as a strategic imperative.
Logic: we cant be hurt with this method.
Weakness: it often does not allocate enough
money.

Historical Method

Historical information is the source for this

common budgeting method.
The inflation rate and other marketplace
factors can be used to adjust the advertising
amount.
This method, though easy to calculate, has
little to do with reaching advertising
objectives.

Percentage-of-Sales Method

It compares the total sales with the total

advertising budget during the previous year
or the average of several years to compute a
percentage.
Two steps

Step 1: past advertising dollars/past sales = % of

sales.
Step 2: % of sales X next years sales forecast =
new advertising budget.

Percentage-of-Sales Method

Based on (future or past) sales dollar or unit

product cost
Method 1: Straight Percentage of Sales
2007

Total dollar sales

Straight % of sales at 10%

2008

Advertising budget

$1,000,000
$100,000
$100,000

Method 2: Percentage of Unit Cost

2007

Cost per bottle to manufacturer

Unit cost allocated to advertising

2008

Forecasted sales, 100,000 units

2008

Advertising budget (100,000*$1)

$4
$1
$100,000

Percentage-of-Sales Method

Pros

Financially safe
Reasonable limits
Stable

Percentage-of-Sales Method

Cons

Reverse the cause-and-effect relationship

between advertising and sales.
Stable?
Misallocation
Difficult to employ for new product introductions.
Sales Advertising budget

Competitive-Parity Method

This method uses competitors budgets as

benchmarks and relates the amount invested in
advertising to the products share of market.
Logic: share of media voice share of consumer
mind share of market.
Share of media voice: the advertisers media
presence.
The actual relationship above depends to a great
extent on factors such as the creativity of the
message and the amount of clutter in the
marketplace.

Competitors Advertising
Outlays Do Not Always Hurt

Competitive-Parity Method

Pros

Take advantage of the collective wisdom of the

industry
Spending what competitors spend helps prevent
promotion wars.

Cons

Companies differ greatly.

There is no evidence that budgets based on
competitive parity prevent promotion wars.
(Prisoners Dilemma)

Return on Investment (ROI)

In this method, advertising and promotions are considered

investment, like plant and equipment. Thus, the budgetary
appropriation leads to certain returns.
ROI has received a great deal of attention by practitioners over
the past few years, with many still disagreeing as to how it should
be measured.
Figure 7-18
While the ROI method looks good on paper, the reality is that it is
rarely possible to assess the returns provided by the promotional
effort at least as long as sales continue to be the basis for
evaluation.