Digital Transformation of

Marketing
Yijun Chen

BUSI70200 Digital Marketing

June 2024
Previous Recap
Digital Technologies & Marketing Strategy

Digital Infrastructure
Broadband, fast-speed internet, cloud storage
Digital Devices
Personal computer, smartphone, wearable devices
Softwares and algorithms
Big data analytics, machine learning, AI
Internet platforms
E-commerce, social networks, digital entertainments

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Trend 1: Big Data
Implications for Managers
It’s important to understand the relationship between data and strategy
The difference between individual-level data and aggregated data
The difference between stated preference and revealed preference
The difference between historic and real time data

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Trend 3: Artificial Intelligence
AI Innovations & Disruptions

• What do you think is “AI”?

• How does “AI” affect your life?
• How do you expect “AI” to affect your work?

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How does AI affect Marketing
Strategy?
Segmentation
Segmentation: divide customers into segments such that customers within the
segment are similar and customers across different segment are different
Effective segmentation is measurable, substantial, actionable and accessible

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Common Segmentation Variables

Demographics Behaviors Preferences/Motivations

“Who” “What” “Why”

Age, income, gender Usage

Needs
profession, education loyalty (brand, packsize, …) preferences
industry, lifestyles
Response to deals
choice
capitalization,
Response to social influence benefits
geographic location

Easy to measure Hard to Measure

Less informative More informative

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Traditional Segmentation
Age

Satisfaction

Input: low-dimension structured data

Demographics, surveyed data
Output: segmentation of customer
satisfaction & age
Algorithm: statistical clustering

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Segmentation after AI

Input: high-dimension unstructured data,

text, image, web browsing, clickstream,
video, conversations, social media posts
Revealed preference data
Output: segmentation of customer
sentiment, preference, etc
Algorithm: AI(deep learning) based
embedded clustering

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How does AI change the Segmentation?
Use unstructured data (text, audio, video, clickstream) as input
Data processing & representation: transform unstructured data into features/“vectors”
Natural language processing (text), image/video processing
Measurement: measure the difference between the “vectors”
Unsupervised clustering: automatically determine the features & segments

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Unstructured vs Structured Data

Structured data
Well defined
Easily measured, aggregated, analyzed
Can not capture nuanced customer behaviors,
preferences, needs
Unstructured data
No pre-defined structure
Hard to process, analyze, measure before AI
Offer rich&nuanced insights into customers

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What does not change in Customer Segmentation?

Segmentation is always about finding customers that are similar and understanding
customer heterogeneity
Effective segmentation: identifiable/actionable/substantial/accessible
The strategic reasoning behind segmentation: e.g. trade-offs in narrow/wide segment
More to come: Blue Apron case discussion, how to uncover customer heterogeneity from data,
the perils of ignoring customer heterogeneity

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What AI can and can not do

AI is a super efficient pattern recognition/data

representation tool that transforms any input to any
output
Supervised: Predict purchase from browsing history
Unsupervised: Find customers that are similar to each
other
Currently, AI is not real intelligence (could change in the
future)
It can not conduct strategic reasoning
It can not generalize out of the data it has seen
But human can conduct strategic reasoning and
generalize

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Implications for Managers

There will always be new data structure, e.g. metaverse, AR/VR, eye tracking???
There will always be new AI algorithm to extract information from the data
There will always be AI innovation in data analytics algorithm
Focus on the fundamental rules/strategic reasoning that don’t change
Understand how to incorporate AI innovation into strategic decisions

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Trend 4: Creating Values-> New Business Model
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Gaming Industry

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Subscription Business Model

• Impacts of digital subscriptions

• Customer acquisition
• Profit margin
• Data collection & analytics
• Customer retention

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Subscription Business Model & Digital Technologies

Subscription: customers pay a recurring fee at regular intervals (monthly, quarterly, or

annually) to access a product or service
Delivery: how to serve the customer?
Physical products -> digital delivery of digital contents
High margin in digital contents
Acquisition: how to reach more customers?
Distribution cost decreases
Physical space limitation disappears

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Subscription Business Model & Digital Technologies

Analytics: how to better understand customer needs with data?

Collecting and analyzing usage patterns, learn changing preference
Usage patterns -> retention -> retain customers
Personalization: how to increase value for each customer?
Recommendation
Cross-sell & upsell
Subscription tiers

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How to successfully transition to
subscription business model?
Profit Structure Break Down

• Suppose Microsoft sell Xbox Game Console & promotes Xbox Game Pass Subscriptions

$450 $30 monthly

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Profit Structure Break Down

Physical Product Sales

One time, recognized at time of purchase
Profit = Price - Cost
Digital Subscription
Recurring
Profit depends on:
Subscription price
Cost: acquiring customer, retention cost, production & delivery of digital service
Customer lifespan/retention

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Profit Structure Break Down

Profit from one customer = Profit from physical product + Profit from subscription
Total profits: summation of profits from all customers
Customer heterogeneity
Spending power: usage level, subscription tiers, how much to spend every month?
Retention: keep the subscription or churn? How many months subscribed?

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 How to calculate the subscription
profit taking different customer
spending & retention into account?
Customer Lifetime Value

Definition: net profit a company expects to earn from a customer throughout their relationship
with the business.
A cornerstone for subscription business model
Components: current profit + discounted future profits

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Xbox Numbers (Hypothetical)
Console retail price: $450, production cost: $400 (gross margin 11%)
Monthly game pass subscription: $30, gross margin 80%
Acquire one subscriber cost: $100
Monthly retention cost: $4 per month
Every month, on average there is a 85% chance of a customer keeping subscription
Monthly capital discount rate: 1%
Xbox considers 24 months time span

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Calculating CLV Example: A new Xbox Customer
Hardware profit: 450(price) − 400(hardwarecost) = 50
Subscription profit per month:
30(subscription) * 80 % (grossmargin) − 4(retentioncost) = $20
2 3
Retention probability in from month 1 to month 3: 1,0.85,0.85 ,0.85 , . . .
2
Expected subscription profit: 20 * 1 + 20 * 0.85 + 20 * 0.85 + . . .
Discounted present value of future profit:
1 1 1 2
* 20 * 1 + * 20 * 0.85 + * 20 * 0.85 + . . .
1.01 1.012 1.013
24 1 t−1
Add up from month 1 to month 24: Σt=1[ * (0.85 * $20)] = $123
(1 + 0.01)t
CLV= 123( fromsusbcription) − 100(acquisitioncost) + 50(hardwareprofit) = 73

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Customer Lifetime Value Recap: a cornerstone for subscription business
T t
For each customer CLV = Σt=1β θt[Qtπt − Rt] − A + H
Subscription profit in each month
Qt = recurring revenue -> Subscription fee
πt = subscription gross margin
Rt = recurring retention costs of current customer
Current and future
θt = Probability of customer survival (still alive/active) -> keeping the subscription
β = discount factors (e.g. 1/(1+10%))
T
Σt summation taken over many periods
The very beginning: acquisition & hardware sell
A = one time acquisition cost
H = profit from hardware sell
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A Simulation of CLV Calculation

https://sallychen.shinyapps.io/app_xbox_clv/

Step 1: Adjust the monthly retention rate, see how overall retention changes
Set monthly retention rate to 0.2, 0.85, 0.95 separately, how do the shape of the retention
curve changes?
Discussion: retention rate & consumer behavior
For Xbox Game Pass: who are high retention & low retention customers? What are their
preferences and needs?

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A Simulation of CLV Calculation

https://sallychen.shinyapps.io/app_xbox_clv/

Step 2: compute Xbox CLV

What is the CLV value of at month 1? Why is it negative?
When does CLV turns positive? How does CLV grow overtime?
Keep membership price at 30, adjust retention rate, what is the minimum retention rate for
CLV to turn positive?
Keep membership price at 40, adjust retention rate, what is the minimum retention rate for
CLV to turn positive?

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A Simulation of CLV Calculation

https://sallychen.shinyapps.io/app_xbox_clv/

Step 3: Side-by-side comparison of low and high retention rate

Current 0.85, high retention 0.9, low retention 0.2
Compute the difference in CLV at month 1,6,12,24
Keep decrease the low retention rate & increase the high retention rate, see how the
difference in CLV changes

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Pricing Strategy for Subscription
Business
 “The price of Peloton’s
original Bike will now be
$1,195, down $300 from
$1,495”

“To offset the lower cost of the

hardware, the company plans
to increase its monthly
subscription fee for the first
time in eight years. The price is
rising to $44 from $39 per
month in the U.S.”

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Hardware Pricing Strategy Discussion

What will happen when Peloton decreases hardware price & increase subscription price?
Number of Sales? Hardware profits?
Willingness to keep subscribing? Subscription profits?

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Xbox Hardware Pricing Simulation

Increase the hardware price from 450 to 500, what is the loss in number of acquired customers?
Compute the CLV & total profit for the following scenario
Current price: $450, 0.85 retention rate -> 73, 73008
Increase price: $500, retention rate remains 0.85 -> 123, 102465 https://
Increase price: $500, retention rate decreases to 0.75 -> 76, 64026 sallychen.shinya
pps.io/
Increase price: $500, retention rate increases to 0.90 -> 170, 141939 app_xbox_profit
Optimal hardware price with different retention rate ability Panel 1
What is the optimal hardware price when retention rate is 0.85 -> 560
What is the optimal hardware price when retention rate is 0.75 -> 590
What is the optimal hardware price when retention rate is 0.90 -> 550

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Introducing New Subscription Tiers

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Subscription Pricing Strategy Discussion

What happens when Netflix introduces a premium subscription tier with higher prices?
Consumer choices between basic and premium tier?
Average retention rate?

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Xbox Subscription Tier Simulation

https://
Compute the CLV & total profit for the following scenario sallychen.shi
Current: $30, 0.85 retention rate -> 73, 73008 nyapps.io/
app_xbox_pr
New premium tier $50, 0.85 retention rate -> 103.51 , 103514
ofitability
New premium tier $50, 0.70 retention rate -> 30.5 , 30503 Panel 2

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Xbox Pricing Simulation Summary

Total profits depend on both hardware profits (straightforward) and digital subscription profits
(less straightforward)
Increase hardware price -> less customers -> retention rate ↑ ↓ -> total profit increase or
decrease
High premium subscription -> customer choice change -> retention rate ↑ ↓ -> profit
increase or decrease
Key point
the profitable pricing strategy depends a lot on customer retention!

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How to get the retention rate of my
customers?
 Tomorrow: Blue Apron Case
Discussion + Data Analytics Lab
Session
Digital Marketing Challenge Launch
Background

You and your teammates are business partners

Digital technologies have created new revenue opportunities
Your business is shifting from traditional physical product sale model to product sale + digital
subscription business model
With retention data at hand, you need to analyze the profitability of your new subscription
business
You will implement digital marketing strategy to improve long term profits from hardware
sales + subscription revenue

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Timeline: A learning-by-doing design

Day 1: stage 1, create business!

Day 2: stage 2, analyze profitability
Day 3 & 4: stage 3, implement strategy Enter the challenge

Day 5: presentation
3 teams in the morning, 3 teams in the afternoon
In-person delivery, part of the team could join via zoom if necessary
AfterClass: report due next week

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Step 1: Choose your Industry, Physical Product, Digital Subscription

Industry
Fitness, Gaming, Health, Tech, Hobby, or Any preferred industry
Could be existing or new product category, AI, LLM?
One Physical product offering, two subscription tiers (basic/
premium)
Example digital subscription offering
Basic: solo use, limited service
Premium: social feature, unlimited service
No subscription: limited functionality
Think about how digital service/content could enhance customer
value
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Step 2A: Churn Prediction and Retention Analysis

Churn Prediction Panel

Help you pin down
customer retention/
loyalty
Help you predict retention
in the future

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Step 2B: CLV and Profitability Computation

CLV Computation Panel

Help you evaluate the
profitability of your business
Help you figure out which
segments is profitable to
serve
More to come in tomorrow’s
sessions

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Step 3: Design and Implement Marketing Strategy

Goal: increase profitability

• Pricing strategy
• Customer acquisition strategy: utilize
digital media to acquire profitable
customers
Analytics support: CLV and Profit
Comparison Panel
Current CLV & Profit
New CLV & Profit under your strategy

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Showcase

Digital Marketing presentation at Friday

• 20 minutes presentation
• 10 minutes discussion
Digital Marketing report
• Complement your presentation: summary of your business, profitability,
strategy
• 3-4 pages, double-space 12 pt (no strict word count)
• Could modify the contents in the presentation with feedbacks
Detailed guidelines and tools are on the website

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