If you're running a business that depends on paid advertising for leads and sales, you're likely always tracking your return on ad spend (ROAS).
ROAS is a key metric for understanding how efficient your ad spend is, and can be used to make decisions about where to allocate your digital marketing budget.
However, ROAS is only a number—it's what you do with that number that counts. In order to get the most out of your ROAS data, you need to understand what it's trying to tell you. Here are three things your ROAS metric is trying to tell you:
Return on advertising spend is a KPI that marketers use to determine the monetary return of their marketing campaigns.
Unlike other KPIs such as impressions, click-through rate and conversion rate, ROAS actually gives marketers a gauge of how their efforts are affecting their bottom line.
ROAS is a powerful metric because it is not a vanity metric that distracts from actual business objectives. For example, click volume is a vanity metric that can distract marketers from other, more informative metrics.
Let's say a campaign has a click-through rate of 2%, resulting in 50,000 clicks to a PPC landing page. It is very easy for a marketer to focus on this high volume of clicks and nothing else. But while clicks are great, they are meaningless without further context.
To dive deeper into this metric, good strategists ask themselves questions about these users who clicked through. For example:
In the case of ecommerce, ROAS is superior because it illustrates the value of our advertising campaigns without focusing on vanity metrics that may or may not actually improve the bottom line.
ROAS cuts through the noise and illustrates whether or not the money we are spending on ad campaigns effectively improves our bottom line.
You can use the following equation to calculate ROAS:
When tracking ROAS, it is helpful to track a few other key metrics. Here are four I personally find helpful to track alongside ROAS:
Conversion rate is tracked by dividing the number of conversions by the number of sessions to your site, multiplied by 100.
CR = (number of conversions/number of sessions) x 100
It's useful to track your conversion rate along with ROAS because, in many cases, they are directly correlated.
Let's say you have a solid ROAS of 4. However, you notice your conversion rate dipped during the duration of this campaign. In that case, we can discern that while your ROAS is in a good position, we could be leaving money on the table as the conversion rate could be higher.
This would lead us to look into conversion rate optimization (CRO) to strategize how we can improve the landing page to encourage conversions.
Average order value (AOV) is a good metric to track alongside ROAS as it highlights possible areas for improvement.
Let's say you have a ROAS of 2, and you notice your AOV is lower on your PPC landing page compared to your standard site.
One way to grow ROAS would be to first grow your AOV. What tactics can you implement to increase your AOV which will, in turn, improve your ROAS? Maybe you can offer an upsell during the checkout process, or you can offer free shipping for orders over a certain amount.
Your campaigns' impression share refers to the percentage of available impressions that meet your targeting criteria. This is important to track alongside ROAS because it highlights opportunities for scale.
Let's say you have a high ROAS of 7, but your impressions share is at 15%. This means that your budgets only allow you to capture 15% of the potential target market that fits your targeting criteria. While your ROAS is high, the volume is low.
What would it look like if you spent more to capture a larger piece of the market share? Sure, your ROAS may drop, but your volume would increase, resulting in more revenue for your business.
Example of Lower ROAS + Higher Revenue:
LTV is the amount of revenue a customer brings to your business over the course of the period in which they are a customer with you.
Let's say your average customer has an average order value of $100, they purchase from you on average 2.5 times per year, and they remain a customer with you for an average of 5 years. This customer's lifetime value is $1,250.
LTV = AOV x Purchase Frequency x Duration (In this example, that’s $100 x 2.5 x 5)
If you wanted to maintain a ROAS of 5 on new customer acquisition, this would mean that you could only spend $20 on a new customer and still hit a 5 ROAS since their first purchase is $100. However, if you start looking through the lens of LTV, you can see that you may be greatly limiting your campaigns.
If a customer has a lifetime value of $1,250, should we be concerned with only spending $20 to acquire them? What if we targeted a 1:1 ROAS and spent $100 to acquire the customer? We could capture much more market share and still capture $1,250 in revenue throughout the customer’s lifetime.
An acceptable ROAS is influenced by profit margins, operating expenses and the overall health of the business. All these factors should be accounted for when targeting ROAS.
Additionally, it's important to know that a good ROAS doesn't mean that your campaigns are operating at their peak potential. There are always optimization opportunities available, it's just a matter of finding them.
Here are three things you can still learn from your ROAS metric:
If your ROAS is very high, it often means you are not being aggressive enough, and you could be leaving money on the table.
Consider this example: You are targeting new customers with your ads and the ROAS in which you can be profitable is 2. However, your actual campaigns are delivering a 5. In this scenario, you should consider scaling your spend to capture more of the market. A good starting point would be to investigate your impression share to see if there is room to target more of the market while strategically bringing your ROAS down.
If your goal is new customer acquisition, we often encourage our clients to target a ROAS in which they can just break even. Why? This will allow us to scale the campaigns to capture more users for their business. Once you factor in lifetime value, you can see that just breaking even on the first conversion is often well worth it, as you will be profitable over the lifetime of your new customer.
If your ROAS is below your profitable threshold on new customer acquisition, or below a 1, you’ll want to do a deep dive into your campaigns to see what may be causing the issue. A good strategist will ask questions like:
Asking these questions will help you understand what you need to fix for your campaigns to be profitable.
Overall, ROAS is a powerful metric that allows us to quickly glance at how our marketing efforts are impacting our business’ bottom line.
However, like many KPIs, ROAS often becomes a fixation for business owners and marketers and distracts from the bigger picture.
No one metric can tell the full story of your efforts. ROAS should be used as one of many analytical tools at a marketer's disposal. Also, the goal for ROAS should not always be to go higher.
Depending on the audience you are targeting (new customer acquisition vs. cultivation of current customers), your impression share, your profit margins, operating expense, LTV and overall business goals should all be factors in determining your acceptable ROAS.
As a general rule of thumb, if your customers have a solid LTV and your goal is to expand market share and revenue, I always push for a breakeven ROAS. Let’s spend to capture more customers and aim for a lower ROAS in order to expand our revenue growth through LTV.
If your customers only purchase once from you or have a low LTV, I always recommend aiming for a high ROAS. You know this is likely your only interaction with this customer so in this case, let’s capture as much revenue as possible without overspending in order to capture profit.
I hope this helps clear the air on ROAS a bit and provides some helpful context for when you should be happy with your results (or not). If you need help interpreting your marketing analytics, feel free to reach out to us. Our team of data-hungry analysts would love to help!