Long-term and short-term time horizons on Amazon
Amazon has updated their metrics to include RoAS (Return on Ad Spend) in addition to their unique ACoS (Advertising Cost of Sale) metric. For the uninitiated, ACoS is the inverse of RoAS, and both are metrics that help advertisers benchmark the success of their campaigns. For every dollar you spent on advertising, RoAS (Return on Ad Spend) shows how much of a return you gained for that spend.
Compared to ACoS, RoAS is the far more common metric, and Amazon’s move has a lot to do with mainstreaming their advertising service to a wider, off-Amazon market. But, more specifically, this makes RoAS an important talking point within the Amazon ecosystem.
Suggested reading: RoAS vs ACoS
You can work out RoAS to see whether specific campaigns and products produce positive returns, and make decisions based on that information (increase or decrease budget, increase/decrease bids, pause campaigns, etc.). But as any experienced advertiser knows, most metrics aren’t very valuable in a vacuum. For both RoAS and ACoS, you need to know your break-even point, and that is what we are going to explain here.
Why break-even RoAS?
RoAS will tell you how much money you’ve made in comparison to the cost of advertising. But it won’t tell you if your advertising campaign is actually turning a profit, because it doesn’t take into account your pre-advertising profit margins. That’s what break-even RoAS does.
Your “break-even point” for each ad or campaign is the minimum RoAS you need to turn a profit. Break-even RoAS contextualizes RoAS against the benchmark of profitability. With this figure, you know what kind of RoAS figures to look for on a product, campaign or portfolio level to know that your advertising is driving growth.
How to calculate RoAS
To calculate your break-even RoAS, you need to first calculate your RoAS. This should be pretty simple. Amazon will now tell you your RoAS on a campaign-by-campaign basis.
However, it’s also important to understand what goes into that calculation.
RoAS = Ad Revenue / Ad Spend
The more complex way to make that calculation requires pulling the different metrics that make up those values.
RoAS = (AOV x CVR) / CPC
For example: Let’s say your average order value (AOV) is $15.00; your conversion rate (CVR) is right on the average for Amazon at 9.55%, and your CPC is also average at $0.71. That means that your RoAS equals 201% or about 2x.
This sounds great. But what if your pre-advertising profit margin was only 20%?
In that case, your adjusted average order value is actually only about $3, and that 2x return shrinks to 40% — which is actually a 60% loss. RoAS figures under 100% indicate that you are in the red.
This is why figuring out your break-even point is so important.
How to calculate break-even RoAS
To figure out your break-even RoAS, you need to add up your costs, and then put that in the context of the RoAS figure you need to hit in order to actually turn a profit.
Start with your break-even point. To do that, you need three data points:
- Revenue: the income you earn from selling your products
- Cost of goods sold (COGS): the cost of sourcing/producing your products. Remember to take into account manufacturing costs, taxes, fulfillment costs, storage costs and any other fees, such as Amazon’s commission.
- Gross profit: This is your revenue minus COGS.
By dividing your final figure (gross profit) by your revenue, you will get your pre-advertising profit margin. If you are using ACoS as your benchmark break-even metric, your ACoS simply cannot exceed this profit margin percentage. For RoAS, you need to take the inverse (1/n) of this figure, and then treat that as a minimum target.
1 / (Gross profit - revenue) = break-even RoAS
For example: If you generate $100 in sales at a COGS of $70, then your pre-advertising profit margin would be $30 (or 30%). That means that your break-even RoAS is the inverse of 30%, or 3.3x (a.k.a 333%). If generating that $100 in sales costs $25 in ad spend, your simple RoAS is 400% (or 4x) — exceeding your break-even point by 67%.
How to plan around break-even RoAS
Fundamentally, you need to make sure that the amount you’re spending on advertising is never greater than the amount of profit you’re generating. Your break-even RoAS gives you a benchmark to look for that can define a successful campaign.
You should figure out your break-even point on a product-by-product basis, a campaign-by-campaign basis, and as an average across your entire portfolio. The problem is that, in a competitive market, it can be hard to out-bid the competition while still hitting your targets.
How CLV changes long-term planning around break-even
On an elementary level, you need to make sure that your RoAS is higher than your pre-advertising profit margin. The bigger you can make the gap, the greater your end profit margin will be, and the more money your business will make.
To get the most revenue per ad it’s common to view each product sale in isolation. You are then optimizing bids for that short-term individual sale. No one wants to spend more on advertising than they need to. Especially, no one wants to make a loss, unless they have an excellent reason — Customer Lifetime Value (CLV) can be that reason.
If you can accurately calculate CLV, it will change the break-even point for selling your products in the long term.
For example: If a single ad connects you with a customer who you know will buy your product three more times on average, this effectively triples the amount of money you can spend on that first sale, and still turn a profit long-term.
Fundamentally, advertising costs don’t scale linearly with each sale, and are a huge portion of the total cost of that first sale. A change of break-even point allows you to push competitive bidding while still making sure that you make a profit.
Let's look at another example: You're launching a new product, and you can see that initial purchases are starting to lead to repeat-purchases and cross-selling of other products.
Investing more and allowing your RoAS to approach your calculated 'break-even" figure would be far more aligned with your long-term goals than bidding on another product that only seems to draw one-off purchases. However, you need solid data to be able to justify such investments.
How to accurately calculate CLV-adjusted break-even RoAS
CLV provides a longer-term context for your RoAS strategy and planning. It gives you the best possible insight into different customer acquisition costs and where you can place your ad spend. However, keeping track of all this data can become very complicated, very quickly.
You can make basic CLV calculations based on your average number of customers, average number of orders and average revenue. You could do this on a quarterly, monthly or annual basis. The more data you have the better. But to effectively deploy CLV within advertising, you need to get more detail. Realistically, you’re going to need data and analytics tools able to crunch the numbers.
At Nozzle, we built our analytics engine around CLV. Helping our customers understand repeat purchase behavior on a per-customer and per-item basis is a critical outcome we provide. If you want to learn more about our strategy, check out our article — Can CLV Calculations Ever Be Accurate?
Long-term planning and short-term tactics
Success on Amazon is all about data. You just need to make sure you are using it to your advantage. You don’t need to limit your view on profitability to a single ad transaction, with a CLV-adjusted perspective on break-even RoAS you can:
- Outbid competitors.
- Double-down or see where to cut your losses.
- See which buyers you need to focus on and why you need to focus on them.
- Look at how you expand your product portfolio by analysis of buying trajectories and personas.
You have the data; we can help you transform that information into action. Get in touch if you want help applying machine learning and AI to better understand your customer, products and portfolio. Or, check out our free ebook — How To Make Sense of Your Amazon Customer Data.