ROAS: Marginal Returns & When To Stop Spending

roas

If your ROAS is slipping at higher ad spend budgets, that means the marginal return on your dollar is falling.

Does this mean you should decrease your ad spend?

It’s indeed very possible to decrease your ad spend, despite a positive ROAS, with the goal of making more money.

Ideally, when it comes to performance marketing, you shouldn’t push ad spend to a place where you’re only getting a ~1.7 ROAS.

If your ROAS is 2.0x while your break-even ROAS is 1.5x, you might think that you’re in a good place…

However:

  • What is the marginal return on every extra dollar you spend?
  • In other words, if you increase your budget by 20 percent, what if your overall ROAS decreases by 50 percent?
  • What if the revenue coming from acquired customers is inflating your ROAS on prospecting campaigns?

Now, these are just assumptions.

Predictive ROAS model

But let’s look at a model to predict what would happen to your net profit, in a four-year span, if you reduce your ad spend.

The scenario

  • You spend $X on Facebook Ads with a Y ROAS through three years.
  • Each year, 35% of customers acquired the previous year will come back organically.
  • In year four, there’s no ad spend on prospecting. Therefore, all the revenue is coming from customers acquired the previous 3 years.

Then, let’s run the numbers to compare what would happen to the profit in two different cases:

  1. A $100,000 per year ad spend with a 2x ROAS for the first 3 years.
  2. A $50,000 per year ad spend with a 3x ROAS for the first 3 years.

These would be the results

First case: $914,000 revenue and $72,000 in net profits (7.9 percent net margin)
Second case: $685,000 in revenue and $129,000 in net profits (18.8 percent net margin)

In the second case, despite a lower ad spend and revenue, the net profit and margins are higher.

This happens because a smaller budget allows Facebook to spend it more effectively.

Obviously, what’s demonstrated here would be true only for certain businesses, and it’s not a universal effect.

The best thing to do? Test.

Accordingly, if you think your budget is not being maximized, you might want to reduce it and see what happens to your bottom line.

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