September 22, 2010
A Guide to AdWords ROI, Profit & Revenue
A few months ago I wrote an article on ‘The Profit Maximising Approach to AdWords‘ and have been asked to elaborate more on the relationship between Return on Investment (ROI), Revenue and Profit in a Google AdWords campaign.
In my original article I pointed out that maximising the ROI of your campaigns does not necessarily maximise the actual profit of your campaigns.
In this article, I’ll continue to explore this but with a practical example.
Let’s take the following scenario:
An advertiser is running a campaign selling goods in their online store. The average profit margin of their products is 40%. By doing much testing, the advertiser has found that their ROI is maximised at $15 when their monthly budget is at $2,250. For every $250 they increase or decrease their budget away from this amount, ROI drops by 5%.
Based on this scenario, we get the following situation:
As we can see from the graph above, ROI is maximised at $15 when the budget is $2,250 per month. When we vary the budget, the ROI drops.
An advertiser without an understanding of the relationship between ROI and profit would incorrectly leave their budgets at $2,250 per month.
We can see from the graph that total revenue is actually maximised when the budget is $5,000 per month, but this is failing to take into account the 40% profit margin and the actual click spend itself.
When we allow for these factors, we can see that the optimal monthly budget is $3,750, resulting in a profit of around $13,000 per month.
So how does this relate to AdWords campaigns in the real world?
The example above is a simplified (and fairly symmetric) version of what happens when you decide to increase the size of your campaigns.
When more ads, keywords and click spend is added to a campaign, it’s normal for ROI to drop.
However, what this example aims to show is that even though ROI might drop when you expand your campaigns, actual profit is likely to be higher.