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The allocation of promotion budget to maximize customer equity
Paul D. Berger[pic], [pic], a and Nada Nasr Bechwatib
a Marketing Department, School of Management, Boston University, 595 Commonwealth Avenue, Boston, MA 02215, USA
b Department of Business Administration, University of Illinois, 350 Commerce West, 1206 S. Sixth Street, Champaign, IL 61820, USA

Received 7 September 1999;accepted 27 March 2000.
Available online 28 August 2000.

Since the early 1980s, the concept of relationship marketing has gained increased acceptance in the field of general marketing, and particularly that of direct and interactive marketing. One of the major benefits of relationship marketing is the ability to make decisions based on their impact on customer equity. In this paper, weoffer a general approach to the organization of promotion budget allocation, where the objective function is to maximize customer equity. A cornerstone in our study is the use of decision calculus in which managers’ judgments and/or estimates serve as some of the inputs to formal modeling. A series of applications of our approach to promotion budget allocation are offered under different marketconditions. These applications focus on promotional expenditure allocation decisions between acquisition and retention, as well as among different promotional options for each category of expenditure. The paper also treats potential cases of synergy, or interaction, between promotional vehicles when applied to the same market segment.
Author Keywords: Promotion budget allocation; Customer equity;Customer lifetime value; Acquisition; Retention; Decision calculus
Article Outline
1. Introduction
2. Literature review
2.1. Budget setting
2.2. Budget allocation
2.3. Decision calculus
3. A general approach to promotion budget allocation
4. Applications of promotion budget allocation
4.1. Case 1
4.1.1. Numerical example
4.2. Case 2
4.2.1. Numerical example
4.3. Case 3a
4.4. Case3b
4.4.1. Numerical example
5. Limitations and suggestions for future research
1. Introduction
It is the age of relationship marketing [21 and 29], an age in which making a sale is just the beginning, rather than the end, of a company–customer relationship. At the core of relationship marketing is the development and maintenance of long-term relationships with customers, ratherthan simply a series of discrete transactions. One consequence of relationship marketing is, therefore, a major directional change in the criterion variable that should guide managerial decisions. Instead of studying the impact of managerial decisions on one-time-transactional sales or profits, the most appropriate criterion that managers should evaluate when determining a course of action is: howwill this action affect the firm’s customer equity [6, 13 and 32]?
Customer Equity, also referred to as Customer Lifetime Value (CLV)1, is the “excess of a customer’s revenues over time over the company costs of attracting, selling, and servicing that customer” [21]. It is, therefore, the discounted value, or present value, of the projected net cash flows that a firm expects to receive from thecustomer over time [7]. The customer lifetime value is used to quantify and measure the conceptually broader marketing concept of customer equity. In this paper, we use customer equity and customer lifetime value interchangeably, a common practice by researchers (see, e.g., Ref. [6 and 13]).
Recognizing its importance in decision making, researchers have studied customer equity [3 and 6] and itsuse in a variety of marketing decision problems, such as pricing strategies [3], media selection [16 and 20], setting acquisition programs [3 and 13], and setting optimal promotion budgets [6]. The purpose of this paper is to offer another managerial application of customer equity, that of optimally allocating an already set promotion budget under different market conditions, focusing on the...
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