Unlocking Profitable Marketing: ROAS vs CPA

When defining your marketing KPI’s for profitability, you may be wondering if you should focus on ROAS (return on ad spend) or Cost Per Acquisition (otherwise known as the cost to acquire a customer). The challenge can be which one should you focus on and why, and when does it make sense to shift from focusing on one metric to another?

Understanding ROAS

ROAS (Return On Ad Spend) is a marketing metric used to measure the profitability of a digital advertising campaign by calculating the revenue generated for every dollar spent. You can calculate ROAS by taking the revenue generated from your marketing campaign and dividing it by the cost to determine a ratio. For example, if you spend $1,000 on your Facebook ads and generate $4,000 in revenue directly from that channel, the ROAS would be 4:1, expressed 4. This means that you have generated 4 dollars in revenue for every dollar spent on advertising. Not bad! But there is more to the story.

When setting goals for and analyzing ROAS, it’s important to consider the profit margin of your product or service, as well as the overall health and profitability of your business. For example: a campaign with a high ROAS may still be unprofitable if the cost of goods sold (COGS), other expenses are relatively high, or you only ever make one sale to your customer. Conversely, you may be happy with a lower ROAS and be profitable if you have high margins or good customer retention with repeat purchases being made (LTV).

There are some pitfalls of using ROAS to measure your marketing effectiveness. One such pitfall is that without an excellent understanding of your costs, ROAS can be a vanity metric that prevents you from scaling your business.

What then is CPA

Cost Per Acquisition (CPA), also known as Cost Per Action, measures the total associated cost of acquiring a new customer or lead. You calculate your CPA by dividing the total cost of your marketing by the number of conversions you achieve (purchases or leads). This metric can be more useful if you have a good understanding of your costs.

Here is an example. Company A spends $1,000 on an online advertising campaign and acquires 50 new customers as a result, the CPA for that campaign would be $20. This means that the company spent $20 in advertising costs for each new customer acquired.

A lower CPA generally indicates that the cost of acquiring a new customer is low, which directly contributes to higher profitability. However, it's important to balance CPA with the LTV (lifetime value) of a customer, as acquiring low-value customers at a low CPA might not be as beneficial as acquiring high-value customers at a higher CPA. It’s also important to note that CPA’s tend to rise over time.

CPA can also help you determine how much you are willing to pay to acquire a new customer, and you can define the CPA that works best for your business, especially when combined with the aforementioned LTV. Here is an example.

What about CAC:LTV ratio?

Let’s say you sell a single product on your website for $100.00 and your customers generally only purchase once in their lifetime. In this scenario, you’d probably want your CPA to be around 1/3 of your AOV (AOV is $100.00 therefore CPA should be $33.33). Conversely, if you sold a $400.00 product and you knew that your customer would purchase an additional 2 times in their lifetime you may be willing to spend up to $400.00 to acquire said customer. It is important to note that the CPA:LTV ratio of 1:3 is a baseline and may not be appropriate for your situation.

If you’re looking for help determining appropriate ROAS and CPA targets for your business, reach out to me today and schedule your discovery call here