You may have heard marketers using interchangeably these two terms, but have you ever wondered what each one means and what is the importance of each for your business?
First of all, ROAS is an abbreviation of Return On Ad Spend, while ROI is an abbreviation of Return On Investment.
Both KPIs (Key Performance Indicators) are ratios, meaning that they are calculated (derived) from the division of another pair of metrics.
ROAS is the division of Revenue that is generated by your advertising efforts to the Cost of these advertising efforts.
ROI is the Revenue divided to the total Cost, meaning the total investment that you have placed on your product/service.
Let’s get down to numbers
So for example let’s say that your product is “Awesome Beauty Pack”. Let’s map down its underlying costs, the money that slips out of your pocket until your product arrives to your customer, is purchased and you get your Revenue. We will use big and round numbers for the ease of calculations. For one unit of “Awesome Beauty Pack”:
- The price you pay to the wholesaler is equal to €10.
- The shipping cost you pay is equal to €2.
- The storage cost you pay is equal to €3.
- The advertising cost you pay i.e. to Google Ads is equal to €5.
- The marketing agency fee you pay is equal to €5.
So for this product to finally be purchased by a prospective customer, you have paid in total a cost of €25.
Let’s say that the retail price of your product is €50.
Now it is time to calculate ROAS (as most marketers calculate it) and ROI.
- ROAS = Revenue / Advertising Cost = €50 / €5 = 10.0
- ROI = Revenue / Total Cost = €50 / €25 = 2.0
Hmmm, so ROAS tells you that for every €1 you spent, you get back €10 (!), while ROI tells you that for every €1 you spent, you get back only €2.
Both KPIs are correct, the thing is what you consider as more important for your business and your budget capability.
Where’s the caveat?
The aforementioned numbers offer a good case regarding profitability. But what if your product is competing with other ecommerce stores that use very aggressive online advertising?
What if the advertising cost climbs up to €40?
In this case, ROAS will be equal to €50 / €40 = 1.25, so you will still be profitable (for every €1 you spend, you get back €1.25, thus a profit equal to €0.25).
However, ROI will be equal to €50 / €60 = 0.83 (!), so for every €1 you spend, you get back only €0.83 which means that you actually have a loss of €1 – €0.83 = €0.17.
What happened here? ROAS neglects all underlying costs and focuses only on the advertising cost.
Campaign management based on ROI
Let’s be reasonable. It is very hard for any business owner to know the exact underlying costs of each individual product.
However, there are many business owners that know their profit margins on product category or on product brand level.
If you are a business owner that falls under the two aforementioned categories (knowing your profit margins on Product level or Category/Brand level) and you care to run advertising campaigns that are optimized based on ROI, then Click-wise is your one-stop business partner.
In Click-wise, we possess the technical know-how to create advertising campaigns from scratch as well as monitor and optimize them on ROAS as well as on ROI terms.