If you buy or sell on Amazon, you'll already know the importance of Amazon PPC advertising. According to a recent article by Marketplace Pulse, "of the first twenty products a shopper sees when searching on Amazon, only four are organic results. There is little place left for organic results, the real estate that drives most sales."1
But CPCs are rising an average of 50 percent year-on-year,2 encouraged by a growing number of Amazon sellers. Advertising on Amazon is becoming more and more expensive. As a result, it’s becoming harder to know exactly how much you should be spending.
Spend too much and you will end up with wasted ad spend that leads to a lack of profit. Spend too little and your brand will become lost within the sea of competitive Amazon sellers.
That's why I have created this useful article. I’ll be offering tips to assess how much you should be spending on your Amazon PPC. To do this, you need to know how to calculate key Amazon metrics and see how they work together. Let's explore: ACoS – the advertising cost of sales; CLV – customer lifetime value, and CAC – the acquisition cost per customer. The key is to reduce wasted ad spend, and make sure you're targeting effective and profitable customers.
Advertising Cost of Sales (ACoS)
First things first, some definitions. Your Advertising Cost of Sales (ACoS) shows how much of your earnings from advertising were spent on the ad campaign in the first place. Target ACoS is a benchmark to ensure your products are achieving their target profit margin. Break-even ACoS is the amount that you can spend on advertising and still break-even typically on the first purchase given your product margin.
ACoS = (Ad spend ÷ ad revenue) * 100
Your target ACoS will depend on your business goals. Your business goals will depend on where your product is in its life cycle. In some settings - including driving profit margin, the sale of particular products to exploit competitive advantage, or brand building - aim for a lower target ACoS. In other settings - such as a new product launch, to shift inventory that needs moving, or at key events - aim for a higher target ACoS. This will then change depending on where your brand and/or product is in its cycle.
In simple terms, you need to make sure that your ACoS is less than your pre-advertising profit margin. The larger that gap, the greater your end profit margin, and the more profit your business will make.
The problem is that Amazon PPC ads are expensive.3 In a competitive market, it’s hard to win bids and make your numbers work. It’s scary to think you could spend so much on advertising you might make a loss. Nobody wants to do this - without very good reason - which brings us on to how Customer Lifetime Value (CLV) changes the game.
Customer Lifetime Value (CLV)
Customer Lifetime Value (CLV), otherwise known as profit per customer, can be defined as the total value per single customer to a business over the whole period of their relationship. CLV comes down to 'sales trajectories.’ It allows you to predict what your customers will buy next and increase customer repeat purchases. Here is a simple formula to help you calculate a simple CLV:
CLV = Total order value x Average gross margin x Retention period
Understanding the average customer lifetime value associated with each of your different products allows you to think with far longer-term trajectories about customer acquisition costs (CAC), and budget for this appropriately. For example, if you know that the average purchase rate per customer for a specific product is four times in their lifetime, this will change the break-even point for selling this product in the long run, meaning you can afford to spend more on advertising and still turn a profit, knowing that you’ll break even on the second or third purchase ,for instance. As a result, ad campaigns and customer service can be crafted, and budgeted, with that in mind.
You will be able to confidently pay more on Amazon PPC ads to acquire a customer, You will outbid your competition, even if you take a loss on the first purchase, if you know that there will be a second/third/fourth purchase that will bring in that profit. This allows you to keep up with the big-spenders and compete for those top ad spaces.
It is also worth noting that it is both easier and cheaper to retain a customer than to acquire a new-to-brand customer. What's more - existing customers are statistically far more valuable than new customers. Existing customers are 50% more likely to try new products within your brand, and spend an average of 31% more.
Having an accurate understanding of your CLV for each of your products, and thinking with longer-term trajectories, means that you can confidently afford to spend more on your Amazon PPC advertising than you otherwise would.
Okay...so how much can you spend on Amazon PPC?
That's where CAC - and specifically the CLV:CAC relationship - comes in.
Customer Acquisition Cost (CAC)
Customer Acquisition Cost (CAC) is the total amount it costs to acquire an average customer. To calculate it, for every ASIN per month you add up all ad spend for sponsored brands, sponsored brands video, sponsored display and sponsored products and then divide by the number of new customers who bought that ASIN that month. The CLV:CAC ratio shows the relationship between the cost of acquiring a customer and their lifetime value. This can be represented in a basic graphic:
Here are two things you need to consider with this relationship:
- Try to keep your CLV higher than CAC.
- Do not spend more on acquiring a customer than the value you get from them.
There is no one "right" ratio. Still, a common benchmark is 3:1. This would mean the value generated by a customer is three times more than the cost of acquiring them. In order to calculate how much you should be spending on your PPC ads, you need to be able to calculate both your CLV and your CAC.
It is possible to do this by hand, but it can be complex and is certainly time consuming. Customer Analytics tools like Nozzle can help you out. Nozzle presents all of these metrics in clear, customizable dashboards, so that you can easily determine exactly how much you should be spending on your Amazon PPC advertisements. As a result, you can spend your time making confident, data-driven decisions.
1 Marketplace Pulse, 'Amazon Is Burying Organic Search Results,' Link here.
2 Marketplace Pulse, 'Amazon Ads Are Getting More Expensive,' Link here.
3 Marketplace Pulse, 'Amazon Ads Are Getting More Expensive,' Link here.