affiliate marketing: tricks of the trade

Affiliate marketing is the hot trend in Internet retailing, already accounting for 11% of online customer transactions, and that number is expected to grow rapidly.  Two pioneers in affiliate network marketing, Tom Gerace of Be Free Inc. and Brian Hecht of The Electronic Newsstand, discussed the nuts and bolts of building an affiliate program, from payment structures, to contractual conditions, at a Netpreneur Program Coffee & DoughNets meeting held February 24, 1999, sponsored by the Morino Institute (http://www.morino.org).

Statements made at Netpreneur events and recorded here reflect solely the views of the speakers and have not been reviewed or researched for accuracy or truthfulness. These statements in no way reflect the opinions or beliefs of the Morino Institute, Netpreneur.org or any of their affiliates, agents, officers or directors. The transcript is provided "as is" and your use is at your own risk.  

Copyright © 1999 Morino Institute. All rights reserved. Edited for length and clarity.

part one: mitch arnowitz: introductions

Good morning and welcome.  I'll be the moderator as we dive into one of the hottest topics in e-business today, affiliate marketing.  "A Is for Advertising," an article in the February 15 issue of The  Industry Standard (http://www.industrystandard.net/articles/display/0,1449,3466,00.html?rm.sr.1) says, "Affiliate marketing is a system of advertising in which site A agrees to feature buttons from site B, and site A gets a percentage of any sales generated for site B."

          That's pretty easy to understand.  The article goes on, "It's popular among startups with very small marketing budgets.  If we all do each other's laundry, we'll all get rich, right?"

          Building an affiliate program is the hottest trend today in putting together your Internet sales force.  There are hundreds of affiliate programs to choose from, including everything from magazines to mortgages.  Affiliate sales will account for 11% of customer transactions this year alone and 25% or $9 billion of online shopping revenue by the year 2002, according to Jupiter Communications (http://www.jup.com).

          Are affiliates making any money?  Do these programs actually lower acquisition cost for merchants?  Is affiliate marketing a good alternative to banner campaigns?  Are webmasters really earning twice as much through affiliate networks as they did with impression-based advertising?  We have come here this morning to find out.  We'll learn about how to set up or participate in an affiliate program and the different types of deals that you can do.  We'll do a reality check and talk about red flags to watch for and rates of return. We'll also talk about how a merchant or affiliate can audit, evaluate and promote a program. 

          Our two experts today are Tom Gerace and Brian Hecht.  Tom is co-founder and executive vice president of Be Free, Inc. (http://www.befree.com).  Be Free is based in Boston and is a leading provider of online affiliate network technology.  Be Free's branded affiliate networks help online retailers derive revenue by selling products in context.  It has built affiliate networks for many of the Internet's leading retailers, among them Network Solutions, Barnes & Noble, Travelocity and Electronic Newsstand.  Be Free is also in the midst of launching several products and services this week.  Thanks for coming to town, Tom, during a busy week.

          Brian Hecht is president and CEO of The Electronic Newsstand (http://www.enews.com).  Based here in Washington, DC, The Electronic Newsstand is the number one Web site dedicated exclusively to selling magazine subscriptions online.  The company's affiliate program began with 400 affiliates last year and now has some 5,000 participants or partners.  The program has become one of the company's most popular features and contributes a significant portion of its revenue.

          First, we will hear from Tom about building a network, then from Brian about running one.  After that, we'll hear from you as we open up the floor for your questions.

part two: tom gerace: good and plenty

I encourage you to take what we have to say today with a grain of salt because we have not yet proven our companies to be completely successful.  We are on the road, however, and I hope we can share with you some of our thoughts and the things we have learned over the last year or two.  Maybe it can help get you on the road a bit faster.

          When Mitch called to see if I could come down here, he told me that he wanted to debunk a few of the myths about entrepreneurship by focusing on affiliate marketing.  "First," he said, "I want to show that you don't need to be brilliant to be an entrepreneur, and I thought you would be perfect for that."  I agreed to come down any way.  "Second," he said, "we want to show that you don't have to be first."  Yes, although it certainly helps, but I'd also like to look at some of the things you do have to be.

          First, in order to succeed in an online business, particularly with marketing online, you do need to understand this space. You need to understand some of the fundamental tenets that form the online marketplace because you are going to be devising a strategy to take advantage of them and to avoid some of the pitfalls.

          You also need to understand your individual market. You need to think about your revenue model, your margins and how to create value for your affiliate partners.  We'll talk about that as well.

          Finally, you need a clear plan.  If you are not going to be first to market, you need to have a clear focus on how you are going to be better than the people who beat you there, and you need to market that plan aggressively.

Thank You, Amazon.com

          Before we get to all of that, let me take a quick step backwards.  Why affiliate marketing?  Why bother with it?  Well, early online retailers made a critical mistake.  They knew the old retail adage that there are three secrets to successful selling—location, location, location—but they misinterpreted it.  They believed that "online" was a location, and, that if they built a store online, all of the users would come shop with them.  After they built that store and spent millions on infrastructure, they realized that "online" is a myriad of locations—both macro and micro, focused and broad—and that the users were spending most of their time at various content locations which matched their interests.  They were rarely browsing over to the online retail locations, so retailers decided to reach out to the content sites through banner advertising.  They bought banners on a variety of sites and began to test which sites and which banner methods were best.

          Frankly, we learned some lessons from that.  The biggest lesson we learned is that you spend $10 on advertising and you get $1 in sales—that's gross sales without thinking of cost of goods.  Banner advertising response rates are so low, typically about three-quarters of 1% click-through, and less than 1% of those buying.  It's not a cost effective way to market online.

          What we really needed was a new model, and, thankfully, Amazon.com (http://www.amazon.com) ended up being brilliant for the rest of us.  Amazon rolled out its associates program in late 1995.  When they did this, they actually didn't see their associates program as a core marketing initiative.  They knew that they had 1,500,000 titles in their database and they wanted to get cars.com (http://www.cars.com) to talk about car titles for them and garden.com (http://www.garden.com) to talk about garden titles for them.  They thought that all of these various content locations could effectively become book reviewers if they gave an incentive to each one—15% of the title for a reviewing.  If that title sold, they would get a number of people adopting the model, and they did.  About 1,000 people adopted it in its first quarter and, since the fall of 1995, they have grown to more than 160,000 people who are linking to the Amazon program.  In the end, affiliate marketing redefined how a central vendor would work with its media partners.

          Let me give you the dream from a retailer's side.  They really wanted a program that reached everywhere, one that could find their potential customers in any location where they spent time.  They wanted to pay those locations if and when it worked, and they wanted selling methods—merchandising and promotions—that they could come up with centrally and would be extended across their network.  Well, this, today, is an affiliate network.

Building Your Own Affiliate Network

          Assuming that you want to market goods or services online, how do you build an affiliate network?

          First, realize that chances are you are going to have a competitor there before you.  Brian's group, The Electronic Newsstand, was lucky.  They were an early investor.  Today, more than 40% of online retailers say that they have or are going to build an affiliate network within the next six months so, chances are, if you are not already building the network, you are not going to be first.  You have to identify a strategy to reach who you want to reach as affiliates and partners.

          We believe that you need a "good and plenty" strategy—good affiliates and plenty of them, at least down the road.  First, however, it makes sense to decide whether you are going after reach or conversion.  Do you want tens of thousands of places where your brand is going to appear even if many of those places don't perform for you, or do you want the few hundred or few thousand sites that are going to regularly have conversion rates as high as 10-20% on click-through and 3-5% on sell-through for your best sellers?  Down the road, you want both good and plenty, but we recommend that you focus on one or the other when getting out the door.

          Next, you need to identify a reward structure that works for your industry, one that works for both you and your affiliates.  You must think about the bounty or commission you want to pay for each sale generated and you probably want to tier that reward structure so that your smaller partners earn something, but your larger partners get the lion's share.  The reason why you want this tiering is because you will get tens of thousands of individuals with a Geocities or a Tripod home page, people who were your customers before, now signing up to be affiliates just so that they can earn a discount on everything they buy from you.  You need the lower tier because you are willing to give them 1% or perhaps 3% or 5% off to take care of those customers, but you need to reward your larger partners more handsomely.

          Finally, you need to market your affiliate program at least as aggressively as you market your site.  Banner ads are based upon CPM (cost per thousand viewers).  The problem with that is you spend money once and reap the benefit only once.  Once that ad has appeared, it's gone.  The nice thing about marketing your affiliate program is that if you acquire an affiliate partner, that partner will pay off month after month, year after year.  We see less than a 10% annual churn rate on most of our affiliate networks.

          So the "do's" are:

1.  Identify the strategy for your network—good or plenty, knowing that you'll evolve to both.

2. Identify a reward structure that works for you and will reward your partners.

3.  Market your program.

          My one "don't" for you is—don't think of your affiliate network only as new customer acquisition.  Your network will certainly bring in new customers, but it's also going to drive repeat business because the links are where your customers spend their time.  They are going to come back through affiliate links, so when you think about how to structure your affiliate program and its reward tiers, realize that you might want to have something different for new customers brought in than you have for repeat sales.

          I'll turn things over to Brian who has actually been there and done this successfully.

part three: brian hecht: proving a crazy scheme

Sometimes successfully. Thanks, and congratulations to the Netpreneur Program for the turnout here.  You really have grown.  I thought that it was only huge venues like the MCI Center that had obstructed view seating behind a column.  I apologize to those of you who can't see, but it's a testament to the turnout we have here today.

          I'm excited to be here and to talk to people who are interested in affiliate marketing.  It's amazing to have a gathering of this size, especially since I was one of the first 1,000 Amazon affiliates.  I spoke personally with the individual who hatched this crazy scheme at Amazon.  I had to have him take me painstakingly through the concept over the phone.  To think that there would now be a mass replication of this model across so many Web sites is truly rewarding.

          Let me back up for a moment and give you some background on The Electronic Newsstand because the things I'll discuss about affiliate marketing will be more useful if you have some context about what we do.

Proliferation And Granularity

          We are the largest E-commerce retailer of traditional, paper magazine subscriptions.  It's an application that is particularly well suited to the Internet.  For one thing, if you have ever bought a magazine subscription because a blow-in card fell out of the issue you were trying to read—followed by 10 more falling out—you'll realize that it's a big business: a $7 billion industry, in fact.  It's also an industry that is having trouble doing things the way they have done them traditionally.  A significant minority of magazines are sold basically by tricking people into buying subscriptions with the promise of an obscene jackpot prize, or that they "may already be a winner" or that Ed McMahon might show up at their door.  I could never tell if that last was a threat or a promise.

          At Electronic Newsstand we are reaching a unique kind of person, so we do things differently.  Selling magazines is particularly well suited to the Internet because there is unlimited variety.  All of the growth in the magazine industry is in very small magazines, not Sports Illustrated or Reader's Digest, but from folks who can't make it into one of those sweepstakes and who don't have space on a traditional corner newsstand kiosk.

          The Internet is a perfect pricing medium, so we have the guaranteed lowest price. We have negotiated contracts with 600 different magazine publishers to make sure that the price you pay is not going to be any higher than that card that falls out of the magazine.  Actually, magazine pricing is a great example of discriminatory pricing.  They charge more to their best customers.  If you've ever subscribed once, when they try to renew you it's often at a price two or three times what you paid originally.  They know they've got you.  The Internet smooths that out and I'll be happy to guarantee the lowest price in perpetuity for anyone who cares to visit our site.

          The most important characteristic, however, and the one most relevant to the discussion today, is that the shape of the industry, of magazines as a category, fits the Internet very well.  There is a magazine about everything, including things you'd never have thought more than three people could be interested in.  For example, not just crocheting, and not just needlepoint and crocheting, but needlepoint and crocheting of sweaters for Beanie Baby dolls has its own magazine.  We want to be the one place that you come to for that magazine.  The only thing like it in terms of proliferation and granularity is the Internet.  If you've ever followed one crazy link after another, you realize, sure enough, there is a Web site for people who crochet sweaters for Beanie Babies.  We want that person as our affiliate to sell the magazine on that site.  I have no idea how to sell magazines to those people, even if there are 10 of them, but I bet the person who runs that Web site knows how to sell the magazine.  He or she probably knows everyone else in the country who's interested in Beanie Baby sweaters as well.

Affiliates Versus Banner Ads

          Knowing all that, very early on we realized that we had the challenge of getting out these offers everywhere on the Internet.  We have all these different kinds of partnerships. We raised $20 million in venture capital this summer and are promptly spending it on some of the big dollar portal deals.  We have exclusive or almost exclusive arrangements with Yahoo, Excite, Webcrawler, Lycos, Tripod and Barnes & Noble.  We are the magazine people on all of those sites.  We never just run a banner that says, "Come shop for magazines."  We always wait for someone to type in "poodle" then we show them a banner that says, "Come here to shop for Dog Fancy magazine and 28 other pet magazines at the guaranteed lowest price."

          When you think about it from a cost of customer acquisition model, it makes absolute sense that we would always choose an affiliate sale over a Yahoo sale.  With Yahoo, for example, I'm paying a CPM and a revenue share in many of these cases.  A grassroots affiliate effort is going to be more successful with customer conversion because the owner of pets.com (http://www.pets.com) knows how to sell dog magazines better than I do.  We also pay on a commission basis, so we only pay for the sales, not the CPM.

          We understood this concept very early on and the idea of an affiliate program was first introduced to me by Amazon when I had that painstaking conversation with them in 1996.  At that time no Web sites had much traffic.  The amount I made in the first quarter was less than I'm carrying in my wallet right now, which isn't very much, but the idea was good.  We were on to something that would work perfectly for magazines as well.  Originally, our site was much more content-focused, with something of a content syndication model then.  We realized that there was significant interest in carrying content about magazines, and we said, "Well, every one of these sites should be selling magazines as well."  Duh, why didn't we think of that in the first place?

Lessons Learned

          I want to quickly run through five things that we learned in launching our affiliate program.  I don't take credit for any of these ideas; it all belongs to the folks at our company who run our affiliate program, Tom Palmer and Larry Joseloff who are here today.  They have been true pioneers in running an affiliate program and they, in turn, would give credit to their affiliates who really make this thing happen.  In the first six months of the program we got our first 500 affiliates.  In the following six months we reached 5,000, and, by the end of next month we'll have 10,000 affiliates.  We are growing that quickly.  Here are the five most critical lessons we have learned in that time.

          Number one, keep in constant communication with your affiliates.  One of the problems with Amazon is that when you have 150,000 affiliates it is not possible to have a relationship with all of them.  There should be some sort of automated way to have contact with every affiliate, and a personal way to have a relationship with the ones who are selling well, whether they need help or just want feedback.  Through an automated system—which, thanks to Be Free, is now completely painless—when an affiliate signs up with us they get an email the same day thanking them for joining and telling them how to build a site.  They get another email one day later and, if they've built a site, it thanks them.  That's a goal, to get them to actually build the site and make their first sale.  Once they are over that hump, they are a revenue source in perpetuity.  The goal is to get him to go from, "Yeah, I guess I'm interested in being an affiliate," to, "Wow, let me start selling magazines!"  They get another email one week later.  We try to screen them for the ones we had high hopes for against those who haven't built yet.  Eventually, an actual, live, functioning human being gets on the phone and calls them to say, "How can I help you sell magazines on your site?  I'm going to make this painless for you."

          Number two, people wonder if there aren't a lot of noodges out there when you're dealing with 5,000 to 100,000 affiliates.  Yes, it's a big customer care job, and I want to tell you to encourage the noodges.  Anyone who cares enough about their affiliate program to worry about it, to call you, to ask a question, that's someone who has an exponentially greater chance of being a revenue stream for you—even if, at first, they are a pain in the you-know-where.  If someone makes the effort to call you, that is a potentially active affiliate.

          Number three, say, "Thank you."  I don't just mean when you finish a phone call or a sales call.  When we pick up an affiliate on the radar screen that we hadn't noticed before, it is not uncommon for us to just cut them a check that says, "Hey, thank you."  It is not uncommon for us to raise their affiliate percentage as an encouragement. Once you have someone selling, say thank you every chance you can.

          Number four, you never know who the winners will be.  We come in every morning now to several hundred applications waiting in our queue for approval.  If you looked at those applications and I asked each of you to pick which five you thought would be the best sellers 30 days from now, maybe one of the five you picked would be correct.  We are not talking about huge, huge sites here.  There are tons of small sites and you never know which will work out for you if you get a motivated affiliate.  It is worth encouraging them.  It is worth giving them the tools to succeed.  Sometimes that Beanie Baby sweater crocheting site slips in under the radar and they start to sell.

          Fifth, and perhaps the most important because it permeates all these other lessons, is that affiliates, especially small affiliates, are people, not rows in a database.  At most of our most successful affiliates—not the Barnes & Noble size, but a standard affiliate—there is a single person motivating it.  It doesn't mean they don't have a small staff, but it's a one-, two- or three-person shop and they need to be treated like people.  They want success.  They have launched an affiliate program and gone through the effort because they want to make money and you want to be able to help them.  If they get an automated account management approach for this, then there is no motivation for them to come back.  A lot of these people, for better or for worse, are looking for self-fulfillment in their Internet activities and, although I wouldn't recommend setting up a dating service, you need to get a little bit involved in their dramas.  It's exciting, and you want to make it exciting for them to be selling magazines.  There is an argument for segregating your affiliate management program from your business development program, even though it is a subset of business development and partnerships.

Seek Out The Right Resources

          The final thing I'd like to wrap up with is, don't do this alone.  When we started out we had one of the first affiliate programs and there was no one out there to help us.  There was no Tom Gerace that we knew about, there was no Be Free, there was no Netpreneur Program Coffee & DoughNets at which to talk about this kind of thing.  We made it up out of our heads, out of Larry and Tom's heads, as we went along.

          Now, thank God, there are actual resources. There are discussion groups like the Netpreneur Program's Ad-Marketing group (http://netpreneur.org/connect/am), there are forums like this one, there are products you can buy that actually work.  Don't feel like you have to do everything.  If you are on a tight budget and launching an affiliate program, I encourage you to look for creative ways to branch out.  Outsource some of the more difficult tasks that can be automated and focus on the people.  It's no guarantee that you're going to succeed.  As Tom said, we haven't completely proven this model yet, but I think we are both on or near the cutting edge and we are happy to share what we have learned with you.

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