ROAS not equating to sustainable business growth
Return on Ad Spend (ROAS), is the single most important metric for your marketing, or is it? Josh White looks at ROAS and the value of long term customers.
ROAS determines the percentage or dollar multiplier of the money spent on your advertising campaign. Below 100x ROAS means you’ve earned less revenue than the advertising dollars you invested into your campaign. Over 100x ROAS means you’ve earned more revenue than the advertising dollars you invested into your campaign.
If you’re a business owner or marketing manager, you’ve likely seen ads touting huge ROAS figures from marketing agencies.
“SEE HOW WE GENERATED 240x ROAS ON THIS CAMPAIGN IN ONLY X DAYS ON Y BUDGET…”
You can probably picture it now, screaming at you through your news feed. Telling you the results you’re getting aren’t doing you any favours.
To be fair, agencies often showcase these statistics when talking to clients. It’s becoming a metric that customers are starting to understand. Explaining this figure is only as good as the profit margin. Simply speaking, if the client is selling a product at 50 percent gross profit a 2x ROAS is enough to break even on their ad spend. Aiming for a 3-4x ROAS means they can scale profitable transactions for initial purchases.
“I heard about someone who was able to get 50x ROAS. Can you do that?” This is a question that has been asked many times before.
Consider the above example. If you’re selling a product for $2,500, and you spend $50 on the cost per purchase, you’ll achieve 50x ROAS. That’s a pretty good outcome, right? If you drop shipping costs, meaning you’re not making a large markup and the goods require high shipping costs, you may only be walking away with $500. This $500 then has to pay for the ad spend, among other operational costs.
While the equation is a little more complicated than this, it’s clear that high ROAS figures are not always all they’re cracked up to be.
So, what other factors should brands consider when building a marketing strategy?
Outside of the ROAS metric, there are two core components of marketing believed to be key supporting factors in successful business outcomes:
Brand visibility has a lot to answer for when it comes to overall sales and ease of convincing in conversion campaigns.
If your brand’s personality is contagious, the value add of its product or service is clear. It owns consistent real estate in the minds of its customers, high value conversion campaigns and ROAS figures are a lot more achievable.
Essentially, your conversion ads aren’t solely working to convince customers. They’re taking orders.
Strong brand visibility goes beyond ROAS. It fosters sales outside of conventional ad funnels and builds genuine growth in ways that aren’t easily measurable.
The Ehrenberg-Bass Institute ran a study detailing what happens when brands stop advertising. The numbers are fascinating, and not that surprising to a marketer. However, they validate the importance of mental availability in business sustainability and growth.
The report suggests that ROAS is in part a symptom of strong brand visibility in the market. If you’re looking at ROAS as your catchall figure, and building out your strategy around it, then you need to recalibrate.
More important metrics
If you’re treating your relationship with your customers as transactional within the realms of platforms like Facebook and Google, then you’re treading on thin ice.
There are many touchpoints outside of traditional advertising platforms that are driving contextual placements, encouraging purchases or other actions from your customers. These include support teams, social media accounts and products.
A testament can be seen in Pet Circle who’ve grown over the last decade to reach $300 million in revenue. The founders are interviewed in a podcast called ‘Scaling Up’ by TDM Growth Partners, where they echoed the sentiment that the only thing that really matters is how loyal your customers are and the CPA to the CLTV ratio.
If you’re paying a Cost Per Purchase of $45 and you are planning to scale your business based on $45 Cost Per Acquisition (CPA) x 10,000 sales with 30 percent margin, you’re leaving yourself vulnerable to changing consumer habits and advertising competition.
However, if you have a more well-rounded understanding of the user journey after initial acquisition, you can focus your attention to a more important metric, customer lifetime value (CLTV).
According to Hubspot, CLTV is “the metric that indicates the total revenue a business can reasonably expect from a single customer account throughout the business relationship”.
It looks like this:
There’s an initial sale through Facebook. In the user’s order they see a discount code for another purchase and a few trials or testers of other products. They may make another purchase without a social media prompt. Perhaps they buy again because of a flash sale through a social media retargeting campaign. Followed by another purchase through your email marketing for a Boxing Day campaign.
In this example, the ROAS figure will identify a multiplier for the initial Cost Per Purchase through Facebook Ads and a separate Cost Per Purchase for the retargeting campaign on the third purchase. However, what these ad platforms won’t be able to readily identify is the lifetime value of the customer. That is, the value of transactions in combination with the customer.
Note: this example will be less relevant to businesses with single transaction opportunities. However, if you’re building a database of single transactors, finding other ways to extend the tail of revenue from purchasers is a great way to increase CLTV.
It is important to consider that many small businesses don’t have the resources to easily expose metrics like CLTV from their systems. It may be a financing or resourcing issue, or even a systems issue.
If the resources aren’t there, these sorts of things can be recoverable with enough manual work. So long as you have the systems online and in store to capture the data.
Understanding the bigger picture
I’m not advising you to forget everything you know about advertising and stop trusting ROAS. It’s an important metric to understand returns as well as the creative and audiences that work best for your brand in this particular component of your marketing efforts. However, if your equation for success is related to the ROAS specifically, then you might need to rework your numbers.
The point is, you need to continue to grow mental availability with your brand, understanding, ‘you forgot something in your cart’ ads don’t separate you from everyone else. You may find that accepting a lower ROAS than you were hoping for is actually really worthwhile, because you’re creating a customer who is going to purchase from you another 4-5 times over the course of the year, unprompted by a paid promotion.
Brand visibility and customer CLTV are two very under-measured and under-utilised metrics for business sustainability and growth. ROAS is a symptom of an effective strategy for these marketing components, and an effective measuring stick to optimise your messages for ads on social and digital platforms.
Don’t make harsh decisions around what ads to cull, what advertising to stop and what audiences matter until you understand the bigger picture.
Josh White is the CEO and founder of Neon Treehouse.