The ROAS Trap

Quick note: I’m testing different topics to write about. This week, I’m trying a Marketing-related post to see how much you’ll enjoy reading articles like these. Let me know in the comments or by dropping me an email 🙂

When I first started working in digital marketing almost 10 years ago, I was fascinated by how measurable it was.

In my previous roles, I couldn’t find a way to measure the impact of my papers or my projects. Digital marketing, however, was different. I could make a tweak in a setting, and immediately see how that influenced the revenue I was driving. It was fun! I felt like a little kid manipulating the controls of a huge, complex, video game.

But lately, I’ve started to notice that this measurability can also be a trap. And it’s a trap that I’ve seen impact hundreds of smart, resourceful digital marketers.

A Quick Primer on ROAS

There’s a metric called “Return on Ad Spend” (ROAS) that every marketer has heard of. Quite simply, it’s how much revenue your ad budget generates. If you spend $100 on ads and those ads bring in $1,000 in revenue, your ROAS is 10X ($1,000 revenue divided by $100 spend).

Marketers love ROAS. It’s a sexy metric. They even have T-shirts saying “In ROA$ We Trust”. If you, as a marketer, grew your ROAS from 10X to 20X, other marketers will look at you in awe and whisper you name in hushed tones as you stroll through the office cafeteria in slow motion.

The problem is: You can’t measure ROAS for everything. At least, not directly.

ROAS is most easily measured in an area called performance marketing. Performance marketing usually involves digital channels like Search and Social, where users click on ads and buy something. It’s super easy to measure ROAS for these ads. Simply track the revenue that comes from the ad clicks, divide it by the ad spend, and voila! You have ROAS.

On the other end, you have brand marketing. This is the typical “Mad Men”-style of marketing filled with big, splashy ads you see on billboards, buses, and TV. Here, measuring ROAS isn’t as straightforward. Let’s say that you saw a beautiful billboard in Orchard Road for the new Samsung Galaxy, and it impressed you so much that you bought it the next day. In this scenario, Samsung has no way of knowing that its billboard ad drove your purchase. Flashy billboard and TV ads are expensive and not very measurable, so many marketers assume that the ROAS for these channels are low.

How The ROAS Trap Works

Your company’s CMO is most likely managing a portfolio of performance and brand channels. Every year, she’s probably pressured to show a greater profitability of those channels. If she brought in $10M in revenue from a $1M ad budget this year (a ROAS of 10X), she might need to bring in $12M in revenue from the same $1M ad budget next year (a ROAS of 12X).

So, here’s where the ROAS trap comes in.

1. The easiest way to improve ROAS in to cut budget from low-ROAS brand marketing, and allocate more budget to high-ROAS performance marketing
2. By doing this, they’ll likely see an immediate jump in their overall ROAS. Everyone pats the Marketing team on the back and talks about how smart they are
3. By neglecting brand marketing, the company’s brand starts to fade from consumers’ minds.
4. This, in turn, impacts longer-term revenue. But since this happens slowly, no one realises that the drop in revenue came from the cut in brand spends 12 months ago
5. When long-term revenue drops, the CMO faces even more pressure to improve profitability, so she goes back to step 1, and the cycle repeats.

Why The ROAS Trap Exists: Incrementality

Why does this happen? Because over-investing in high-ROAS channels lowers incrementality. Incrementality is a measure of how your ads drive sales that would not have happened otherwise.

Let’s use a well-known analogy to illustrate the concept of incrementality: Imagine that you run a pizza restaurant. To attract more business, you task your employees Adam and Bob to give out four $5 discount coupons each. Each coupon has a unique code, so you can track how much revenue Adam and Bob’s coupons generated.

At the end of the night, you tally the scores:

• Adam: 4 coupons of $5 each (a $20 cost to you), which generated $100 in revenue. ROAS = 5X
• Bob: 4 coupons of $5 each (a $20 cost to you), which generated $500 in revenue. ROAS = 25X

Seeing these amazing results, your first instinct is to fire Adam and give all his coupons to Bob. After firing Adam, you ask Bob, “How did you get such fantastic results? You were 5X more efficient than Adam!” Bob goes, “Oh, that’s easy. I simply gave all my coupons to people who were already queuing up for the restaurant.”

This is what I mean by incrementality. Bob’s customers had a super high intent (they were already queuing up for your restaurant!), but they weren’t incremental. In other words, they would have spent money regardless of whether they received the coupon.

The higher someone’s intent is, the higher their ROAS. The problem is, the highest-intent customers usually have the lowest incrementality. By focusing too much on ROAS and not enough on incrementality, you’re doing the equivalent of giving out coupons to people who already want to buy from you. And this is ultimately bad for everyone in the long-run.

But Why Is The ROAS Trap So Tricky?

There’s a great post making its rounds on LinkedIn about how Nike made a series of poor strategic decisions in the last 4 years. The author mentions that one of Nike’s key mistakes was a disproportionate focus on performance marketing at the expense of brand marketing. In other words, they focused too much on ROAS.

On hindsight, it’s easy to point fingers at the Nike marketers. But if you were Nike’s CMO, evaluating the shift from brand to performance marketing back in 2019, you would have come up with some REALLY compelling points:

1. Performance marketing is measurable, allowing you to demonstrate a clear ROI to investors
2. It would drive more people to your website, allowing you to earn higher margins vs your wholesale distributors
3. It would allow you to A/B-test hundreds of thousands of variables: Price, images, ad copy, etc, allowing you to systematically and scientifically improve your performance.
4. On the other hand, brand marketing is often expensive, untargeted, and is notoriously difficult to measure.

Which one would you pick?

This is what makes the ROAS Trap is so tricky. We live in a world that increasingly prioritises science, measurability, and predictability. It’s hard to resist the siren call of performance marketing when we’re constantly pressured to report our short-term results. It’s tempting to focus on things that are measurable and make us look good now, even if it’s detrimental to us in the long run.

So, What’s The Solution?

Reading this, you might assume that I’m asking everyone to take all your budgets out of performance marketing and reinvest it into brand marketing. But that’s not what I’m asking. Instead, marketers could do better by 1) balance performance and brand marketing, and 2) find better ways to measure the impact of brand:

Balance performance and brand marketing: Performance marketing plays a really important role, especially when it comes to giving consumers that final nudge to take out their wallet and buy. When done right, performance marketing does drive incrementality when run alongside brand marketing. Sophisticated marketers know how to strike that balance.

Find better ways to measure the impact of brand: You can’t really go to your CFO and say “Hey, I’m gonna drop a ton of money on a fancy TV ad. You’re not going to see an immediate ROI, but trust me on this one“. You’ll need to convince everyone why running a brand campaign is worth it. You’re going to have to educate them that taking a small hit in your ROAS now might lead to benefits in the long run.

Yes, this sounds incredibly difficult. Which is why I think topics like these – in marketing, sales, and business – are really interesting to write about in future posts.

Is this something that you’d like to hear more about?