Paid Search Challenges – Is ROI getting in the way of Profit?
At a Google training session for Junior PPC executives, a question was asked about the relative importance of Profit, Return on Investment, and several other Key Performance Indicators such as Conversion Rate and Click-Through-Rate. The question was simple – “To a business, which is the most important?”. 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 raised their hand for ROI than they did profit before being collectively corrected.
It’s not just Junior execs who have this mentality. As marketers, 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 Paid Search/ Search Engine Marketing campaigns below. Which one would you rather have?
|Business||A. Kev’s Door Co.||B. Roy’s Plant Pot Ltd.|
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 Co. 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 Co.||B. Roy’s Plant Pot Ltd.|
Which would you rather have as your Paid Search/SEM campaign? Roy’s Plant Pot Ltd. of course. Simply put, Roy and his Plant Pot business has made approximately a quarter of a million more than Kev and his Door endeavour. 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.
So why do we prioritise ROI as a Key Performance Indicator? The problem is not 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 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 – The reality is that it’s very difficult to calculate overall costs and your true profit. There’s media spend, product costs and margins, office space, staff salaries and even 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 becomes difficult for an Agency to factor 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.
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.
It might not always be possible to include every single cost all the way to the office 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 marketers have minimal information available, the only KPI’s that can be measured are Return on Ad Spend ****/Return on Investment***. (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.
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, the “better still” status. Then we can see profit, and identify when ROI is not telling us the full story.
Whether it was the room full of junior agency execs or the many other marketing professionals, 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 biddable media campaigns are worthy of more investment and stop us missing opportunities to grow.
Glossary of terms:
* 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.