What Is ROAS: Everything You Need to Know About Return on Ad Spend
What is ROAS?
ROAS stands for “return on ad spend”. ROAS is a key performance indicator that is used to assess the effectiveness of advertising campaigns. Return on ad spend allows marketers to assess their advertising investments by measuring the revenue earned for each dollar spent on a particular campaign.
Return on ad spend overlaps with the concept of ROI (return on investment) because they are both metrics that quantify a return on investment. However, ROI typically incorporates costs and overall profitability into the calculation. Thus, typical ROI formulas are a measure of profitability return, versus the pure measure of demand generation that ROAS provides.
ROAS is important because it allows marketers to quickly determine how much demand their marketing campaigns are generating.
How do you calculate ROAS?
ROAS is calculated by dividing the amount of revenue generated from a marketing campaign by the investment of that campaign. See formula below.
Let’s look at an example. Suppose you invest $4,000 on an online ad campaign. The campaign generates $20,000 in gross revenue. Our ROAS formula looks like this:
For every $1 that you spent on this campaign, it makes $5 of gross revenue. This would mean you have a ROAS of $5.
Are fixed costs included in the marketing ad spend?
Normally, only the costs of working media are include in the denominator (cost of campaign). Fixed costs such as campaign creative development are excluded from the denominator because the ROAS metrics is designed to measure the relative return on incremental media investments.
What is a profitable ROAS?
It’s difficult to understand profitability solely on ROAS, as the metric is a measure of demand and not profitability. Return on ad spend targets are usually set by companies based on margin calculations, which vary by industry.
How to set ROAS targets
Marketers typically set ROAS goals based on their business’s profit margins. When selling goods and/or services, there are a number of costs that are incurred with every sale (called variable costs).
Here are some examples of non-marketing variable costs:
Costs for product materials
Costs to manufacture the product such as labor
Costs to ship a product to the consumer
ROAS benchmarks for large and small profit margins
ROAS targets for marketers vary greatly based on the profit margin of their company. Companies that operate with very small profit margins will set ROAS goals very high because they make less in margin for each sale. Thus, the demand generation for every marketing dollar spent must be very high to avoid losing money on each sale. ROAS goals for low-margin business could be $10 or higher. This means that businesses with smaller profit margins need to be strategic in investing in their ad campaigns so that they can get the highest possible ROAS.
Companies operating with large profit margins can afford to set lower ROAS goals. Because they make more money on each sale, they can afford a lower ROAS target. High-margin businesses can have ROAS goals of $4 or lower.
While it is hard to pinpoint a specific ROAS that will be successful across all businesses, many businesses will start making a profit at a $4 ROAS. Additionally, many companies make a fairly large profit at an $8 ROAS.
Lastly, having an ROAS of $3 or below may be an indicator that you should reallocate where you’re investing. Remember, a good return on ad spend depends on the specific business, which means companies have to consider profit margin when determining their ROAS goals.
How do marketers use ROAS?
Return on ad spend can drive future budgets, marketing strategy, and investment optimizations.
Here are some key questions ROAS can answer:
Which advertising campaigns are driving the most revenue?
What marketing channels are driving the most revenue?
Is our marketing investment increasing or decreasing in effectiveness?
Marketing improvements that can be made with ROAS insights
Marketers can make a number of changes to improve their programing. ROAS insights allows them to:
Increase total sales by moving investment toward the most effective campaigns.
Direct marketing spend toward the best performing channel.
Make detailed optimizations for digital tactics such as paid search.
Return on ad spend (ROAS) final takeaway
ROAS is a powerful marketing metric that can be used to optimize advertising campaigns and effectively allocate spend. While it is important to look at margin rate when determining what a good ROAS is for a company, return on ad spend is an effective metric to maximize revenue generation.
References
https://www.wordstream.com/blog/ws/2019/01/16/return-on-ad-spend-roas
https://www.disruptiveadvertising.com/marketing/roas-return-on-ad-spend/
https://www.classyllama.com/blog/roas-really-mean
https://www.thebalancesmb.com/roas-and-how-is-it-calculated-2295469
https://en.ryte.com/wiki/ROAS#cite_note-2
https://www.bigcommerce.com/ecommerce-answers/what-is-roas-calculating-return-on-ad-spend/