What is Return on Ad Spend? Calculating ROAS, CPA, and ROI
Definition: ROAS, or “return on advertising spend,” is a metric for measuring the effectiveness of ad campaigns. It specifically refers to the revenue made in relation to the advertising costs spent. ROAS can also be understood as the ROI, or return on investment, for advertising.
By tracking ROAS, you will be able to make decisions about whether to invest more budget in ads with high ROAS and rethink ad content that has low ROAS. Depending on the marketing strategy, the amount of your budget that should be allocated to advertising will vary, but it is important to have a clear understanding of how much is advertising actually leading to sales. If you calculate the cost-effectiveness of each marketing channel, you can better plan your future marketing and use your budget towards the right channels to maximize results. In this article, we’ll go over the three main metrics for measuring advertising success: CPA, ROAS, and ROI.
Table of Contents
- 1. What is CPA?
- 2. What is ROAS?
- 3. What is ROI?
- 4. ROAS, CPA, and ROI: Calculation example
- 5. Conclusion
Cost Per Acquisition (CPA) is a marketing metric that measures the cost of acquiring one conversion from an advertisement. A “conversion” is anytime a customer makes an action, like making an inquiry or purchasing something on your website.
CPA = Total Advertising Cost ÷ Number of Conversions
For example, if you spend $3,000 to run an advertising campaign on both Facebook and Google, and receive 50 conversions from this ad, then your CPA is $60. If only 20 conversions were generated from this ad, you would have a CPA of $150. So the higher the CPA, the more it’s costing to receive one inquiry (or order).
CPA allows you to easily measure the effectiveness of advertising campaigns, and compare the ROI on different channels. For example, if you find that the CPA on Facebook is much lower than on Google, then you may want to invest more of your budget into Facebook ads.
What can be called a quality CPA really depends - there is no universal benchmark for CPA. But you can determine whether it’s a good result by considering the following factors.
- How big of a priority is your profit margin? Can you sacrifice some profit for the sake of brand awareness?
- How large is your marketing budget to begin with?
- How are you defining the conversion? (Inquiries are more difficult to receive than an email subscription, and thus the CTR would naturally be lower).
ROAS, or “return on advertising spend,” is defined as the total revenue generated from an advertisement.
ROAS = (Revenue From Ads ÷ Cost of Ads)
For example, if you spent $500 on an ad campaign, and received $1,250 in revenue, the ROAS would be 2.5. In this case, the higher ROAS turns out to be, the higher the profit made from the advertisement.
ROAS is a critical metric for businesses running advertising, as the main method for calculating the profitability of ads. By evaluating how much your ads are contributing to your ultimate revenue, you can share this with the rest of your team and use this data as grounds to expand the marketing budget.
Like CPA, the quality of your ROAS score depends on a wide range of factors, from profit-margin to industry. However, most companies aim for a 4:1 ratio, or $4 back for every $1 spent on ads. Keep in mind, though, that the average ROAS score is only 2:1, or $2 in revenue for ever $1 spent.
ROI, or “return on investment,” is a concept that’s not exclusive to ads, and instead is a global metric used to calculate the final revenue after taking into account every single cost. By every cost, this means aside from what you invest in marketing, you have to factor in the human resources cost, technology cost, and so on.
*Note that ROI can also be used to measure total revenue made from ads. ROI still differs from ROAS in that ROAS is a calculation of the average revenue made from ad campaigns, whereas ROI is the gross revenue made from ads.
(ROI = Net Income ÷ Total Cost of Investment) x 100%
This is a very simple example, but if you ran a lemonade stand for one day in the summer, and spent $5 gathering the tools (lemons, poster board, plastic cups), and made $35 by the end of the day, then your ROI is 500%.
ROI lets you know the bottom line profitability of a business, and so of course, it’s essential to be aware of your ultimate ROI. In addition, you can better understand how different areas of your business are contributing to the final revenue. Like if you place ROAS and ROI side by side, then you can see how much advertising makes up the gross revenue.
As long as the ROI turns out to be a positive value, then you know that your investments are profitable to some extent. On the other hand, if your ROI comes out to be a negative percentage, then you’re spending more on costs than you’re earning.
Here’s another example so that you can get a better idea of how to calculate all of the metrics we introduced above.
Let’s say that you’re a manufacturer of cosmetics and you ran a shopping ad on Google.
- Your company has a corporate site, ecommerce site, and a service site
- For 1 month, you ran a Google ad for a seasonal campaign for your new eye shadow palette
- The total cost for the ad campaign was $10,000
- The price for one eye shadow palette was $75
- The profit made for every palette was $30
- The total items sold via advertising was 2,000
- The sales revenue made from advertising was $150,000
- The gross revenue made from advertising was $59,000
Based on this result, the cost to sell one product is $10,000 ÷ 2,000 products sold, resulting in a CPA of $5.
The sales revenue from advertising is ($150,000 ÷ $10,000) × 100%, so the ROAS is 150%.
The gross revenue from advertising is ($59,000 ÷ $10,000) × 100%, so the ROI is 590%.
Though marketing metrics can seem intimidating at times, in reality, it only takes a simple calculation to find out the profitability of your ad campaigns. My advice to you is to make a habit of continually tracking these metrics, and use ROAS and CPA to determine which advertising channel is reaching the most customers. Then, of course, adjust your marketing strategy to focus on the channels that get the best results.
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