The meaning of ROAS and How to Calculate it Using the ROAS Formula

Published on
September 27, 2023
Written by
Daniel Ling
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Episode #
The meaning of ROAS and How to Calculate it Using the ROAS Formula
Learn about the crucial role of ROAS in ad optimization and gain valuable insights into the steps involved in the optimization process.
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Say you run a tech gadget business, and you are about to launch a new product. You’ve set aside a big part of your budget for advertising. But unfortunately, things aren’t going well as expected. You’re facing a big problem: your ad campaign is not performing. This boils down to a few main issues:

  • Not enough sales, i.e. not many people are buying your product.
  • Your ads aren’t reaching the right people.
  • Your ads aren’t convincing or exciting.
  • You’re spending too much money on ads.
  • You’re not using information to make smart decisions.

When launching a brand-new product or marketing your company’s services, your return on ad spend (ROAS) becomes your advertising compass. It helps you make every ad penny count, ensuring your budget is efficiently divided among channels. With ROAS, you can tweak your campaigns in real time, find those profitable sweet spots, and stay competitive in a fierce market. It’s not just about making sales but also about boosting your bottom line. Plus, it guides you on how to scale up your efforts while keeping the profits rolling in. 

Now, let’s begin with what is ROAS.

What Is the Meaning of ROAS?

Return On Ad Spend (ROAS) aims to tell you which campaigns and ads are effective by comparing revenue to ad budget.

Evaluating whether your ROAS is low or high will help assess campaign effectiveness and profitability, offering guidance for decisions regarding ad budgets. 

Having understood the meaning of ROAS, let’s find out how to calculate it using the ROAS formula. 

ROAS Formula: How to Calculate ROAS?

Return on ad spend (ROAS) is determined by the following ROAS formula: 

For instance, using the ROAS formula, if you invested S$2,000 in ads and generated S$8,000 in revenue through mobile apps, your result would be 400% or 4:1.

So, now that you’ve learned the meaning of ROAS and how to calculate ROAS,  the next topic to explore would be the factors to consider while  calculating ROAS.

What Are the Factors to Take Into Account While Calculating ROAS?

When calculating ROAS for marketing, remember to factor in the following:

  1. Partner and Vendor Costs: If partners or vendors assist with your campaign, fees and commissions may be associated with their services. Including these costs in your ROAS calculations is crucial to understand your campaign’s overall expenses.
  2. In-House Personnel Expenses: Don’t forget to account for the costs of your in-house advertising personnel, including salaries and related expenses. These costs are part of the overall investment in your advertising efforts and should be included in your ROAS calculations. 
  3. Affiliate Commission: If you have affiliate marketing programs, consider the percentage of commission paid to affiliates and any network transaction fees associated with these partnerships. These expenses are part of your advertising costs and should be factored into your ROAS calculations.
  4. Clicks and Impressions: Pay attention to essential metrics like the average cost per click, the total number of clicks, the average cost per thousand impressions (CPM), and the number of impressions you actually purchase. These metrics provide insights into how efficiently your advertising budget is used and should be part of your overall ROAS analysis.

Why Is ROAS Calculation Important?

ROAS is pivotal to your business’s success in the digital advertising landscape. Here’s why:

  1. Measuring Campaign Effectiveness: ROAS is a quantitative tool to assess your advertising campaigns’ performance. It provides data that helps you answer a fundamental question: "Are my marketing efforts actually working?" It provides a clear metric to determine whether your marketing campaigns deliver the desired results or whether adjustments are needed.
  2. Informed Decision-Making: ROAS is critical in shaping your future marketing decisions. By closely monitoring ROAS, you can make informed choices about where to allocate your advertising budget. This ensures that your resources are invested where they are most likely to yield positive returns.
  3. Strategic Insights: Combining ROAS with customer lifetime value (LTV) gives you a holistic view of your marketing strategy. This informs your budget allocation, strategic planning, and overall marketing direction, helping you maximise your ROI. You can make strategic decisions about budget allocation. It guides you in deciding where to invest more budget because campaigns are performing well, and where to scale back or optimise strategies when the ROI is less favourable.
  4. Leveraging Predictive Analytics: Even partial ROAS data can be valuable, especially with predictive analytics. 
  5. Comprehensive Assessment: ROAS is crucial, but it’s just one piece of the puzzle. To get a complete picture of your advertising performance, look at metrics like Cost Per Acquisition (CPA), Average Revenue Per User (ARPU), and Customer Lifetime Value (LTV). These numbers can help you make informed decisions about your budget, marketing plans, and product improvements.

What Is a Good ROAS?

There’s no consensus on what constitutes a "good" ROAS, but generally, the higher the ROAS, the better. 

Reaching a ROAS of 1:1 means you’re breaking even, neither making a profit nor losing money with your ads. You’re basically just covering the cost of advertising with the revenue you’re earning. While this may not seem significant, it’s a starting point. If your business depends on customers who keep returning and spending a lot over time, breaking even is okay, especially for a little while.

Usually, when your ROAS is above 1:1, your advertising makes you more money than you spent. The higher the ROAS, the better your ads are at making a profit. Lots of businesses try to get a ROAS between 3:1 and 5:1. This means they make three to five times more money from their ads than what they spend on them.

While there’s no "right" answer, a common ROAS benchmark is a 4:1 ratio, which means S$4 in revenue to S$1 in ad spent. 

So, to answer the question, ‘What is a good ROAS?’, it’s essential to recognise that the perfect ROAS can differ significantly based on your industry, business objectives, and profit margins. 

For example, if your business relies on repeat orders with customers making significant purchases over time, it may be acceptable not to prioritise immediate profit generation from your ads. So, in such cases, you might be open to earning less profit initially, understanding that these customers will contribute more revenue in the future.

It can also help to benchmark your ROAS to past campaigns that have performed well, which helps to give an indication of what a good ROAS is for your business and industry.

ROAS vs ROI vs CPA: Which to Use for Marketing?

ROAS, ROI, and CPA are important metrics in marketing. However, they tell you something different. This means they are used for different reasons. 

Simply put, which metric you pick—ROAS, ROI, or CPA—depends on what you want to achieve with your marketing. 

If you’re looking at how well your ads make money, go with ROAS. Use ROI to see if your marketing efforts make an overall profit after considering all expenses. And if you’re interested in how efficiently you get new customers or leads, CPA is the way to go. Businesses often use a mix of these metrics to get a complete picture of how their marketing is doing. 

Let’s take a look at an example. Your tech gadget business recently launched a new smartphone model and invested S$1,000 in an online advertising campaign to promote it. 

Here are the results of the campaign:

  • Total Revenue Generated: S$5,000 (from sales of the new smartphone)
  • Total Advertising Cost: S$1,000
  • Total Conversions: 50 customers purchased the smartphone through the ad campaign.

Now, let's calculate the key metrics:

1. Return on Ad Spend (ROAS): 

Here are the results of applying the ROAS formula:

ROAS = (Total Revenue Generated / Total Advertising Cost)

ROAS = ($5,000 / $1,000) = 5:1 or 500%

This means you’ve earned S$5 in revenue for every S$1 spent on advertising.

2. Return on Investment (ROI): 

ROI = [(Total Revenue Generated - Total Advertising Cost) / Total Advertising Cost] * 100% 

ROI = [(S$5,000 - S$1,000) /S$1,000] * 100% = 400%

This indicates that you’ve earned four times your advertising costs in profit.

3. Cost Per Acquisition (CPA): 

CPA = Total Advertising Cost / Total Conversions 

CPA = S$1,000 / 50 = S$20

This means you’ve spent S$20 in advertising costs to acquire each customer who purchased the smartphone through this ad campaign.

How to Improve ROAS?

Here’s how to improve your ROAS in marketing for your business:

1. Spend Less on Ads:

  • Experiment with different bidding strategies for your advertising campaigns. Don’t stick to just one way; keep trying and adapting.
  • Try manual bidding, where you control your maximum bid, or automated bidding, which uses machine learning to optimise your ads.
  • If bidding for Google Search Ads, consider not aiming for the top spot in search results. Going for a lower position can save you money while still being visible on the first page.
  • For ads on Meta platforms, leverage automatic placements to allow the system to optimise your ads for the best-performing placements, yielding the best results at the lowest costs.

2. Target the Right Audience: 

  • Target the right audience using factors like location, job title, or device. Divide your audience into groups and create ads that match their interests.
  • Maintain a mix of branded and non-branded keywords in your campaign. Both types play a role in your campaign’s success. Non-branded keywords help you reach new customers and boost visibility, while branded keywords enhance competitiveness and drive conversions.
  • Ensure your creative choices revolve around what appeals to your target audience. Adhering to best practices in ad creation involves optimising for mobile placements, using attention-grabbing visuals, concise and understandable text, clear messaging, and a compelling call to action.
  • Make sure your ads are thoughtfully crafted following the best practices across various social media platforms, including Instagram, Facebook, YouTube, and of course, Google Ads.
  • Target individuals similar to your target audience in terms of demographics, interests, finances, and lifestyle. 

3. Improve Conversion Rates:

  • Make sure your ads lead to relevant landing pages. The page users land on should match what they expect based on the ad.
  • Create personalised landing pages and optimise their load speed to engage users.
  • Use storytelling in your ads to connect with your audience personally.

4. Increase Customer Lifetime Value (LTV):

  • Focus on retaining your current customers, as it’s more cost-effective than getting new ones.
  • Use retargeting ads to bring back visitors who didn’t convert.
  • Run email campaigns to keep subscribers informed and interested.
  • Think about loyalty programs that offer multiple benefits or rewards in return for a specific action you want your customers to complete.

5. Look Beyond Data:

  • Sometimes, issues with driving a strong ROAS might not be about your advertising but your products or the buying process (e.g. a tedious checkout process).
  • Think about bundling products to make them more appealing.
  • Consider adjusting your prices.
  • Review the user experience and ensure customers can easily complete their actions without confusion.

What Are the Uses of ROAS?

Here are several ways you can leverage ROAS data to benefit your business.

What Are the Pros and Cons of ROAS?

THE PROS

  1. Channel Selection: When running campaigns across various channels like email, social media, and out-of-home, ROAS helps you identify which channels deliver the best results for your budget. Focus on the most effective ones and cut back on those draining your resources.
  2. Ad Optimisation: By comparing ROAS for different ad creatives, you can determine which words and images resonate most with your audience. This insight lets you tailor your ads to what your audience likes.
  3. Simplicity in Reporting: ROAS is straightforward – money spent on ads versus money earned. It’s easy to grasp, even for non-marketers. This simplicity streamlines reporting and helps you communicate results effectively.
  4. Informed Decision-Making: Once you know what works and what doesn’t, you can use this information to shape future marketing strategies and campaigns. This data-driven planning saves money and brings quicker results, making it easier to justify your ideas to management.

But remember, past success doesn’t guarantee future results! While ROAS is a valuable guide, ongoing testing and measurement are essential.

THE CONS

  1. Short-Term Focus: ROAS typically measures short-term behaviour linked to specific ads. To understand long-term revenue, consider Customer Lifetime Value (LTV).
  2. Incompleteness: Ads are just one part of your marketing mix. Other factors like offline ads, reviews, and brand familiarity can influence results, making it challenging to attribute returns solely to one ad.
  3. Volume Considerations: A positive ROAS can happen with a small customer base. It doesn’t show how much more revenue you could generate with a larger customer base.

Remember that while ROAS is a valuable metric, it’s essential to consider these limitations and use it with other data to make well-informed marketing decisions.

Manage Your Marketing Budget Effectively with Aspire

Unexpected expenses and overspending can throw your marketing budget off track, especially for small businesses with limited resources. But with Aspire’s Spend Management, you can stay in control:

  • Allocate spending by establishing budgets for various purposes such as projects, clients, or teams.
  • Streamline budget planning by distributing budgets among teams and assigning budget owners while maintaining complete transparency.
  • Set spend limits that you can adjust or freeze as needed.
  • Access real-time expenditure data to track where funds were used and by whom.
  • Ensure adherence to spending guidelines through approval processes, expenditure limits, and policies.
  • Aspire’s virtual cards cover diverse expenses like online advertising, SaaS subscriptions, and international transactions, making them preferable to traditional bank corporate cards..
  • Reduce foreign exchange fees and earn unlimited 1% cashback on eligible digital marketing and SaaS expenditures.
  • Easily integrate these features with your accounting software for seamless budget management.

So, why wait? You can open an Aspire Business account online for free in just 5 minutes!

For more episodes of CFO Talks, check us out on Apple Podcasts, Google Podcasts, Spotify or add our RSS feed to your favorite podcast player!

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ABOUT THE AUTHOR
Daniel Ling is a seasoned writer specialising in business finance, market trends, and industry best practices. Daniel has led thought leadership initiatives at Meta and other reputable companies for more than a decade. Daniel leverages his consumer insights and a data-driven approach to help businesses grow.
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