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PPC Challenges - Is Your Pursuit Of ROI Getting In The Way Of Profit? (PART 1)

I remember two things about my first visit to Google on a training day as a Junior PPC Exec many years ago. The first was the huge spread of desserts loosely referred to as “breakfast” of which I enthusiastically decimated. The second was a question asked to the room about the relative importance of Profit, ROI, and a number of other KPI’s such as Conversion Rate and Click-Through-Rate. The question was simple – “To a business, which is the most important?”. I sat there at the time thinking that it must be Profit, but not with the conviction where I said anything out loud, because ROI is important right? Clients always want ROI. They did a show of hands, and more people raised their hand for ROI than they did profit. When you think that the point of running a business is to make profit, any other answer than profit seems ridiculous. Yet more people (albeit entry level execs, but an intelligent bunch of people nonetheless) raised their hand for ROI than they did profit before being collectively corrected. Why?

As it turned out, it was not just a room of Junior Execs that were prone to such thinking. Since that training day 6+ years ago, I have worked with people of many levels, both client and agency side, who prioritise ROI as the be all and end of performance. This is more because we so often focus on ROI, which is anchored as the main priority, and we lose sight of the end goal…profit. It’s not an obvious problem, because more often than not ROI and Profit correlate pretty well. You are not going to do much wrong in terms of efficiency if you focus solely on ROI. However, the strongest ROI does not mean the most profit, and that is key here. ROI is relative to the level you are spending.

Only when spend remains the same can a stronger ROI always mean more profit. As soon as the level of spend changes, the value of ROI loses context. 

Compare the two PPC/SEM campaigns below. Which one would you rather have? 

 

Business

A. Kev's Door Knob Palace

B. Roy's Plant Pot Palace

Cost

£350,000

£600,000

Revenue

£1,500,000

£2,000,000

ROI

3

2.3

 

In this example the cost represents ALL costs (and not just media spend, which would be ROAS instead). At a glance and without any reporting on profit it’s quite easy to favour Kev and his Door Knob Palace due to the stronger ROI. As soon as you include profit in the reporting, the value of the ROI comes into question.

 

Business

A. Kev's Door Knob Palace

B. Roy's Plant Pot Palace

Cost

£350,000

£600,000

Revenue

£1,500,000

£2,000,000

ROI

3

2.3

Profit

£1,150,000

£1,400,000

So which would you rather have as your PPC/SEM campaign? Roy’s Plant Pot Palace of course. Simply put, Roy and his Plant Pot Palace has made a quarter of a million approx. more than Kev and his Door Knob endeavour. Kev might have a better ROI, but that’s not going to help him with a deposit for his bedsit in Zone 2. Roy on the other hand has gained £250k more than Kev, and might even be able to afford a 2-bed (or a bedsit in Zone 1). The key thing to remember is that ROI is only relative to your costs, and comparing ROI between two campaigns of vastly varying levels of spend will not provide you with the whole story. The more you spend, the lower the ROI required to retain the same level of profit. In the same breath, keeping ROI consistent will bring more profit at higher levels of spend.

 

Profit is elusive.

 

When spelled out in a clear way it’s easy to understand the ROI/Profit relationship to the point where you could read what I have said so far and roll your eyes because it’s obvious. The problem is not really due to a lack of understanding of how profit works, but rather the lack of key information being readily available to calculate the profit and overall costs. The overall problem is down to Habit, Reporting and Communication.

Habit – We are in the habit of focusing on ROI (or CPA*, CPR** etc). It’s centralised to the point where it can seem like the only thing that matters. We have ROI thresholds we want to stick to, particularly if we are using open budgets – where we can spend any amount, provided the ROI is achieved and maintained. We are so used to focusing our performance and strategy around ROI, we can without realising it lose sight of what really matters. It’s very easy to forget that top level ROI can decrease as your profit increases, because we do not often find ourselves in situations where we suddenly spend a lot more and see it in action. So there is a lack of experience contributing to the oversight.

Reporting – When we focus on ROI it naturally takes centre stage in our reporting. The example above shows how the inclusion of Profit really changes the impression of value of ROI. Without the right information in our reporting, it’s no wonder that ROI is so central to our priorities. That said, it leads on to the next point, which is the real source of the problem.

Communication – I have so far talked of Profit like it’s an easy thing to just include in analysis and our reports. The reality is that it’s very difficult to calculate overall costs and your true profit. You have your media spend, your product costs and margins, your office space, staff salaries, coffee machines to consider. Often people do not know the true cost of their own business, or at least many Marketing Managers who have the relationships with Agencies do not know this information. So it then becomes difficult for an Agency to then factor the profit into the reporting. This breakdown in communication then limits reporting to only focus on the information we can know, like ROI, and as a result we miss opportunities to grow and gain more profit. It’s not a surprise really, the proposition of “let’s spend more and reduce your ROI” is not very appealing if it doesn’t include the caveat of “and make you a quarter of a million more in profit” as well. 

 

PPC ROI & Profit Relationship

 

In short, the more information on costs, margins and profit that is shared, the more empowered we are to make better decisions that allow our campaigns to grow and increase profit. When we only consider the first set of costs and return (media spend and revenue) then it is no wonder that we miss opportunity. If all we have is ROI, then ROI takes centre stage.

 

Compromise

 

It might not always be possible to include every single cost all the way to the coffee machine. The time it may take to get that figure would add to your overall cost itself anyway, as time is money after all. However, we should aim to include as much information as we possibly can within reason and apply an Overall Margin in our reporting. The more cost that we cater for in our reporting, the more we can see the context of ROI and Profit, and the more we take advantage of opportunities to grow. The ideal is to cater for every level of cost so we can see true ROI and Profit. If that is not possible, then as much information as possible is the best approach. See below for different levels of information that could be provided. 

 

Minimum

Media Spend Only

Improved

Media Spend and Product Margin

Better Still…

Media Spend, Product Margin, Shipping, Returns, VAT

Ideal

Media Spend, Product Costs, Shipping, Returns, VAT, Salaries, Office Cost, Coffee Machine, EVERYTHING

The closer you can get to including ALL costs in your reporting and performance analysis the better. If we have just have the minimum available to us, we can only provide ROAS****/ROI*** (ROI is often used as a KPI when really it should be called ROAS, which only takes into account media spend. True ROI takes all costs into account technically speaking). If we factor in profit margin then that’s a big chunk of information that changes how performance looks and we can see Gross Profit. This is a level typical of many PPC/SEM accounts I have worked on, mainly because people tend to know their product specific costs, so it can easily be communicated, factored into reporting and help improve our decisions when it comes to growth. It’s the next stages where information is less readily available and not typically communicated.

In short, we need to find the most accurate margin to use in our reporting that is representative of all our costs. We can then use our Revenue figure with this margin to compile our total costs. This at least gets us to stage three “better still” status. Then we can see our profit, and identify when ROI is not telling us the full story. See a more detailed summary of Roy’s Plant Pot Palace performance, showing the stages taken to calculate total cost, and ultimately profit. Bear in mind that once you have taken the time to work this out once with the long version first, you can simply apply the top level Margin to your revenue and save some time and space. 

 

LONG VERSION

 

% Retained

Sum

Revenue

100%

£2,000,000

VAT

80%

£1,600,000

Product Margin

95%

£1,520,000

Returns

99%

£1,504,800

Estimated Other Costs

98%

£1,474,704

Additional Costs (Rev - New Sum)

£525,296

 

SHORT VERSION

% Retained

Sum

Revenue

100%

£2,000,000

Overall Margin

74%

£1,474,704

Additional Costs (Rev - New Sum)

£525,296

Now we have a strong estimate of our total costs, we can more accurately talk of profit and see the context it has with ROI as we saw in the first table of Kev and Roy’s results. Taking the time to work out what our overall margin is (74% for Roy and his Plant Pot Empire) and including it in our reporting analysis allows us to make the quick comparison I started this post with.

 

Summary

 

Whether it was the room full of junior agency execs or the many other people, both agency and client side, that have made the ROI/Profit oversight, it all stems from the habits we have developed and the lack of transparency in costs beyond media spend. If we only talk about ROI, we only think about ROI. Taking the time, though awkward at first, to best estimate our total costs and applying an Overall Margin to our revenue in our reporting can really shed light on our potential and which campaigns are worthy of more investment and stop us missing opportunities to grow.

 

The difference between Kev and Roy’s campaigns where ROI and Profit excel respectively in each is typical of the difference we see in a PPC/SEM account. You may have a Brand campaign where you can achieve an ROI of 50, but only so much traffic available through that campaign but conversely have much more volume available to you through less cost effective generic terms that have an ROI of under 10. Given that a PPC/SEM campaign should be spending budget in the most efficient areas first and then expand out, this means that we often need to reduce our top level blended ROI in order to grow and improve our profit. This will be discussed in part 2.

 

Disclaimer – Apologies to anyone with a sudden urge to get into the lucrative plant pot or door knob business. Kev and Roy and their respective palaces unfortunately are not real, so you will need to buy your door knobs and plant pots elsewhere.

 

* CPA =                Cost Per Acquisition – A value related to the cost required to acquire each customer.

** CPR =              Cost Per Revenue – Refers to the ratio of advertising cost to the associated revenue received.

*** ROI =            Return On Investment – A figure that shows the earning of profit vs. overall costs of marketing and represented as a multiple, i.e. 5X.

**** ROAS =     Return On Advertised Spend – A figure that shows the earning per spend on advertising. Represented in the same way as ROI as a multiple, i.e. 5X.

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