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Monitoring how your advertising campaigns directly impact your company’s profitability or revenue may help you make better marketing decisions, reduce advertising waste, and improve your business.
While you could choose one of several key performance indicators to decide which advertising investments help your company the most, return on advertising spend (ROAS) could be one of the best ways to compare advertising tactics when your goal is direct profit or revenue generation.
What Is ROAS?
ROAS seeks to identify the ratio of dollars invested in a particular advertising tactic to the revenue or profit that it produced.
Often ROAS is presented as a ratio, a percentage, or a dollar value.
Imagine an online retailer spends $1,000 on a pay-per-click advertising campaign with a popular search engine. If the campaign generates $10,000 in profit, there is a 10:1 ratio between the amount invested and the amount returned.
ROAS = 10:1
This same ROAS could also be calculated as a percentage. To do this, we would divide the profit by the advertising spend and multiply by 100.
(10,000 / 1,000 = 10) x 100 = 1,000%
While both ROAS as a ratio and ROAS as a percentage are popular ways to present this data, they may be difficult to think about when you start to compare advertising tactics. So some marketers state the ratio in terms of dollars and cents in an effort to make ROAS more tangible.
To get a dollar amount, simply state the profit portion of the ROAS ratio as such, to show the amount of profit generated by a single dollar.
10:1 = $10
However you choose to express ROAS, it can help you decide which advertising campaigns or tactics are returning the most relative profit or revenue.
Measure Profit or Revenue?
Speaking of profit or revenue, ROAS can be used to measure either one relative to a particular advertising tactic. In fact, if you look in financial blogs or books, ROAS is often associated with revenue.
This makes sense for companies focused on revenue growth — perhaps those that are trying to grab market share or impress potential investors. Privately-held, small and mid-sized businesses, however, may be more interested in maximizing profit.
Consider these two example advertising tactics.
Imagine that the first tactic is an online coupon. It gives shoppers a 15-percent discount on anything they order from a particular online store. To promote the coupon offer, the store spends $1,000 on search engine PPC ads. Those ads help to generate about $10,000 in revenue at about 15-percent margin, for a profit of $500 ($1,500 minus the $1,000 PPC spend).
For the second row in the table, imagine that the store created a promoted pin campaign on Pinterest. The product promoted was offered at full price so that the margin is about 30 percent. The promoted pins cost $1,000. The tactic generated $5,000 in revenue at 30 percent profit margin, resulting in $500 in profit after the cost of the advertising.
If your company were concerned with revenue growth, the PPC ad on the search engine is more effective. It generates a $10 ROAS versus a $5 ROAS for the promoted pin.
If your company is focused on profit, you would calculate ROAS based on your profit after advertising spend. In this case, both the search engine PPC ad and the promoted pin generate a 50 cent ROAS.
Remember, this was completely hypothetical. The performance of a PPC ad on search engines and a promoted pin on Pinterest is likely to be quite different. The point here is to decide if your business is focused on profit or revenue.
A Warning about ROAS
ROAS should help you identify which advertising tactics are doing the most to promote your business goals within a specific context. But you need to be careful with ROAS for a couple reasons.
First, not every ad and not every marketing effort is meant to generate a sale directly or immediately. Consider content marketing, which should attract, engage, and retain customers over a relatively long period of time. A PPC ad on Google might run or a week for a month, but a post on your blog could be impacting customers for five years. It would not be appropriate to try to measure that blog post over the span of a week and compare it to the PPC ad.
Next, ROAS does not measure total revenue or total profit. We should consider the available volume of profit or revenue a tactic produces relative to the ROAS. Here are a couple of examples taken from a multichannel retail in the northwest U.S.
Both of these campaigns promoted the same offer in May 2016 but appeared in different mediums. The second offer significantly out produced the first offer in ROAS. But the second offer represents the entire available inventory. The advertiser could not purchase even one more dollar of ad space in this medium. The $24,237 represents everything available there. So it would not make much sense to eliminate the $3,500 tactic, which generates $80,672 in profit, simply because some different tactic has a higher ROAS.